Andrew Smith, Chief Economist at KPMG, comments:
“While the Chancellor is sticking to Plan “A”, or what’s left of it, he has long held that fiscal conservatism can be offset by “monetary activism”. Ahead of the arrival of the new Bank of England Governor in July, the Chancellor has announced a new remit for the Monetary Policy Committee and consultation on the role of monetary policy in supporting the recovery.
“The Chancellor is proposing first, that while the two percent CPI target remains unchanged, the time horizon over which it should be met, conventionally two years, can be extended if this facilitates more growth.
“Second, the MPC could try to influence interest rate expectations more directly, for example by specifying the conditions under which rates would be changed.
“Will this help? With official interest rates at pretty much rock bottom, the Bank has run out of conventional bullets and almost anything it tries now is by definition untried, untested and uncertain.
“Policy is already operating fairly flexibly, with periodic doses of quantitative easing despite consistently above-target inflation. By the Bank of England’s own analysis, QE has been moderately helpful in preventing output falling further, but there have been concerns that it may be subject to decreasing returns.
“If a re-charged monetary policy is to boost growth, the most likely route is by lowering the pound externally and raising inflation expectations at home to bring forward spending.
“But this may be easier said than done. Conversely, there is the risk it proves too successful, prompting an adverse market reaction.”
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