måndag 7 april 2008

Pity the Monetary Policy Committee

The Monetary Policy Committee is primarily charged with the task of keeping inflation within strict limits. It has done this by adjusting interest rates. In fact, that is all it can do. This apparently worked well until recently because the economic climate was benign. I say "apparently" because house prices have been rising way beyond the rate of inflation, fuelled by easy lending to people whose ability to repay their loans has not always been all that solid.

Eventually and inevitably the bubble burst and now the system is being put to the test. If the interest rate is reduced this week it will cause the UK pound to continue to weaken, which will bring further inflation in its wake. If the MPC puts it up, this will help to contain inflation but accelerate the recessionary trend.

Whatever the MPC does will be wrong. What can one conclude? That interest rates alone are not an effective means of regulating both the economy and the stability of the currency. This points yet again to the inadequacy of present economic theory, which gives policymakes no effective means of understanding what is going on and leaves them unable to deal with things when they go wrong.

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