Interest rate increases mean the economy is strong not weak Blog Discussion

MSE_Jenny

This is the discussion to link on the back of Martin's "Interest rate increases mean the economy is strong not weak" blog. Please read the blog first, as the discussion follows it.

Read Martin's "Interest rate increases mean the economy is strong not weak" Blog

buglawton

Inflation means more money is appearing on the scene without the actual supply of goods & services increasing. So inflation is a particular issue in low-productivity countries (Britian is classed as one of the lowest productivity countries in the 1st. world).

The govt. has 3 ways to control inflation

1) Increase taxes to match govt. expenditure
2) Reduce govt. spending to match taxes
3) Increase interest rates to take spare cash out of the system

Giving the job to the Bank of England with a 'target' of 2% inflation or whatever just delegates to job - and the B of E only has one single instrument apparently: Interest Rates. Actually, behind the scenes the B of E also controls how much money is printed and monitors how much virtual money is around. If anyone can shed more light on this corner please do!

So to get to the point: High interest rates are an unimaginative and short-term attempt to control inflation. It draws money into the UK as foreigners deposit their savings here. It is supposed to reduce prices as the pound artificially (without a real trading basis) goes up in value. In real life though, it may just be an opportunity for retailers & power companies to make higher profits on their imported products.

If all of the UK were to think more like MSE'ers - buy everything very competitively and save more even if interest rates are not very tempting - then maybe our interest rates would be lower.

buglawton

You are good because if everone were like you our interest rates would be lower and our real economy stronger - but you would not like that!

northshore_2

Dear old Gordon.
stick/carrot/stick/carrot/stick/carrot.
Who would think that this is (still) the best (21st. Century) economic tool.

Zyyb

Thank you Martin!

Now don't you think that simple Monetary and Fiscal policies should be taught to all school children? It could be that one part of a Maths lesson they might use again in later life!

I honestly believe that if everybody took economics and learned about how small countries run and how trade works, there would be less racists in the world.

Mr_Mumble

There is some stealthy circular thinking involved with Martin's blog post.

When Lamont upped interest rates to 10%, then 12% and finally 15% on black/white Wednesday it was taken as a sign of weakness not strength. Consider any country with hyper-inflation, again, putting up interest rates is a sign of weakness not strength. So, interest rate increases don't always mean an economy is healthy.

Martin saying interest rate increases mean the economy is strong, as a general rule, is only true if that underlying economy is strong!

I'd also like to point out that these supposed interest rate rises are in reality falls. The real interest rate has halved over the past year. Base Rate - RPI is currently 1.05% (5.25%-4.2%) whereas a year ago the rate was 2.1% (4.5%-2.4%).

MSE_Martin

Mr. Mumble you are of course quite correct about Lamont's rise. I was talking in the current situation with an aim of explaining the very basics of interest rate policy.

As we know Lamont was focused on currency rather than internal economics with the base rate rises back then - but I shall leave such heady macroeconomic explanations to others.

Martin

ManAtHome

Interesting table here http://www.fxstreet.com/fundamental/interest-rates-table/ - wouldn't really like to build a case for economic strength or weakness based on rates...

judkirk

As Martin said interest rates are being put up to reduce house price inflation. House prices are going up because the money supply is going up, why is the money supply going up, because he who would be prime minister has gone on a spending spree to boost GDP and the banks have joined in the fun by massively increasing their lending at the same time. The major problem being that real UK assets have not increased in line with his spending and their lending (ie he is not producing any real wealth eg new assets) so the existing assets have more money chasing them and hence go up in price. Which is great if you have the assets but not very clever if you are asset poor (eg most pensioners) or have a fairly fixed income because the value of your money has decreased.
That unfortunately, despite what Brown claims, does not make a strong economy.

buglawton

Hear hear. The Chancellor is hoping to con a largely economically illiterate public: blame the Bank of England (who's hands are tied, they have only 1 silly lever to pull) and blame the apparently prolifigate spending public.

The UK has structural problems that make it hard to have a balanced economy. In Europe people are happy to bring up their families in rented accommodation. It is usually spacious with undergound cellar storage for bikes, freezers etc. Noise insulation and noise abatement meaures are excellent. They feel no urgent desire to 'get onto the housing ladder' in case it gets pulled up. They feel confident that if they really want to buy one day, prices will not have become overinflated (other European countries have never seen a wild property boom, with the exception of a few holiday resorts and Ireland). And it does not look is if there is going to be any UK policy to build high quality housing en masse as happened in many parts of Europe over the last 25 years. The best housing stock in the UK meanwhile is still the pre-1970's stuff.

Additionally the UK has the burden of being one of the world's few International policemen, so has to carry a high per capita defense budget. No doubt at the next election another government with no discernably different foreign poilcy will be voted in. We spend 2.6% of GDP on defense compared with Germany's 1.5%.

The UK economy looks set to be the usual juggling act betwen raising very large amount of tax while young people plunge into debt in fear of losing out getting scarce housing.