The Monetary Policy Committee’s decision to launch a further £75 billion of gilt purchases to be completed over four months was in line with the prediction of the “MPC-ometer” and the recent steer from well-connected FT commentators – see previous posts here and here.
£75 billion is equivalent to 3.7% of a broad liquidity measure comprising the “M4ex” aggregate plus private-sector holdings of foreign currency deposits, Treasury bills, National Savings instruments and DMO repos. This rose by 4.5% in the year to August, up from 0.9% in the prior 12 months – hardly suggestive of an intensifying monetary squeeze requiring an offsetting official cash injection.
The monetary effect of the coming gilt purchases is likely to be greater than earlier rounds because banks and companies are in better financial shape. The earlier injection was partly “extinguished” by bank capital-raising exercises and corporate loan pay-downs.
With no obvious shortage of money in the economy, “excess” liquidity created by QE2 should support asset prices and push down the exchange rate. Today’s action, indeed, risks triggering a major further fall in sterling, echoing the 1976 collapse when UK monetary policy was similarly lax – see chart. Such weakness would damage growth prospects by boosting import prices and sustaining a high-inflation squeeze on hard-pressed consumers.