Mr Osborne's squeeze

Hi Steph

I may be stupid, but if interest rates are increased, won't that mean we'll all be in a worse mess? Inflation is high because of clothing, fuel and food. These are hardly luxuries that we don't need. The last thing we want is dearer mortgages and other loans which are now necessity rather than luxury. And won't it stifle businesses that aren't doing well too? I don't know what the answer is but I'm sure it's not raising interest rates.

The same old same old....
We see prices of basic commodities rising in the world mainly due to rising demand (from the likes of China and India) and stable or falling production (oil, gas, food).
We then claim that changing the interest rates in the UK will have some effect on this - not so in truth, the only effect might be a slight temporary rise in the value of the pound - a value that has a long term downward trend reflecting the long term decline in the British economy.

If we are to really fix the problem we need the correct medicine, not just strong medicine.

We could start by increasing employment in the UK - not with imitation jobs shuffling paper in local government but by real jobs doing things.
For example...
a) We are paying the Belgiums to take Ark Royal, Cumberland and heaven knows how many others to Egypt for the Egypitians to cut up - that creates NO work in th eUK.
b) We buy several hundred thousand German, Swedish, French, Spanish and even American cars, vans and lorries for the police, fire, ambulance, armed forces - even government ministers are no longer driven in Jaguars - none of these purchases creates a British job
c) We buy Chinese uniforms for the Army, American Jets for the airforce lets face it the Labour government even snubbed the UK defence industry by buying American tanks for the Army....

When we have no one making anything we can export nothing. We can't forever believe that shuffling money around a discredited banking system will somehow manage to feed us.

Imagine a family - mine would be a good example. I work, I make something, I get paid for it, I can then pass that money around in the family and we can live. If my wife works she can also make something and we can live better, if my son works then things get even better... If on the other hand we all stop working and pass the money around between each other, we can cross out the numbers on the pound notes, change them to different figures and pretend we are somehow doing something useful to make money, but the reality is when we go to the supermarket we will find it pretty useless.

They'll be NO BoE RATE RISE until both The City and business generally are each satisfied that the current policy induced stagnation is over.

For as long as Britain's economy remains deliberately repressed, tax revenues (which are a lagging indicator) will never be sufficient to reduce the level of the deficit until well into the next Parliament.

Fortunately, 'Merve the Swerve' knows that it's recovery of Corporation and Value added Tax revenues that are crucial to any sustained recovery. So does the City. Therefore, they'll be no extra brakes applied on that recovery until this policy-induced stagnation is over.

Maybe this autumn will bring some hike in interest rates? But watch the GDP growth numbers for any other indication.

Doubtless, these inflation figures will have some people clamoring for pointless base rate rises.

The Bank of England can do nothing about imported inflation. As has been pointed out by David Smith, in the Sunday Times, and others elsewhere: the Bank can offset these price rises by causing deflation elsewhere in the economy, but to what end? That is tantamount to economic vandalism and would result in a lot of of entirely unnecessary misery. Just because the CPI and RPI have been lowered by deflating prices elsewhere, the imported inflation will still be there. Petrol and food will still be much more expensive.

Deploying higher base rates to fight imported inflation is just plain ridiculous.

The only credible justification for such a course of action would be to discourage wage inflation and there is absolutely no evidence of a wage price spiral emerging.

Imported inflation just means that, collectively, we are all just a bit poorer - and there is nothing we can do about it.

The country desperately needs growth and higher base rates will make that outcome far less likely.

Why Stephanie? Why still no reference to the fact the the Federal Reserve are printing $4billion new dollars (QE2) every single working day? Why no research to see if it corrolates with the increase in prices of commodities and stocks. Its the elephant in the room.

oh chris_cat, Back in the Eighties, the ordinary non-economists, myself included, were so accustomed to high inflation that we never understood why anybody was trying to cut it back. Mind you, in those days, interest rates were higher than the inflation rate. People such as myself, being very mathematically talented, were quite happy to just add percentages constantly to the prices that we encountered from week to month.

Then in the early Nineties, they (our Western World Economists) finally managed to bring down inflation. It was amazing. Never saw it before. It was actually sensible and wonderful. In the dying days of John Major's government, despite the fact that everybody was worn out by Thatcherism and austerity, we actually had the most stable and sustainable economy in Britain I have experienced in over 20 years.

Of course, we have since learned that much of the manner in which inflation was "brought down" was accomplished by the Globalization Economics that meant Asian countries were happy to produce our goods (and our pollution) for prices that we couldn't sneeze at.

Nonetheless, we have now gotten used to an economic system where inflation was kept under firm control, and having lived in times of lack of control, we DON'T WANT to go back.

The trouble is that economics as a discipline is hopelessly imprecise about how much money actually "exists" in its systems, yet has its awareness that unless the VALUE of that money is maintained as stable, then the whole system can easily descend into chaos and Zimbabwe.

So there is the simple reason why interest rates are supposed to go up to control inflation. The excuse by the economists has been that "external factors" are beyond their control. That is nonsense. If the whole world ran out of oil tomorrow, and its price became more expensive than gold, the monetarist economists would still have a responsibility for managing the money supply that keeps our economic system, and all of us, alive.

A rate rise is well overdue. If rates were at, say, 3% now, would the BOE be thinking of cutting them? Certainly not. A small rate rise will immediately strengthen the pound (which will certainly aid inflation), reduce the likelyhood of a dramatic and crippling rise futher down the line and will also give a bit of a vote of confidence in the economy. The more the Bank Of England puts off a rate rise in the face of such dire inflation data, the more that markets and others will worry that they are either incompetent or know something that we don't. The effect of inflation on households will be far worse than that of the cuts. It's vital this is addressed soon.

After so much QE in USA, UK and now Japan, central bank base rates are increasingly irrelevant. Ultimately, it's the cost of oil that matters most. Mind you, like oil they are generally on the way up. There's gonna be a squeeze.

PS I've got a good idea. Let's inflate our way out of this mess.....

A very timely piece Stephanie.

I'd like to propose that if the MPC raises intereste rates, this will have exactly the opposite effect than intended by risking stoking wage inflation because with mortgage rates so low, even a small rate rise translates into a big increase in the cost of the mortgage interest, so with their committed spending on food, energy and transport plus taxes, most households would then be pushing employers hard to raise pay to be able to afford their more expensive mortgages - of course they may not get it, which is then likely to light the blue touchpaper on a wave of distressed property sales, as people try to trade down to a mortgage they can afford.

Given rising inflation, rising unemployment, rising borrowing and the impending massive amount of money being removed from the economy via the spending cuts, the chances of precipitating a meltdown in house prices seems quite high - and that meltdown would take out the banks as it did in Eire and cause the same economic tailspin that the Irish people are now stuck with, probably for a generation or more.

I still find it a complete mystery that the OBR etc are still predicting growth in the economy when the current situation is rapidly deteriorating even before the spending cuts begin to really bite. Everything points to rapidly rising unemployment in the public sector, the building industry and even in retail, as consumer spending is squeezed hard.

The so-called "growth" budget we are about to get seems to be the usual neocon dogma of marginal tax breaks and deregulation, which IMHO are about as much use as a chocolate fire guard in the current climate.

Cutting public spending without having an equivalent cut in taxation will put a large brake on the economy, as the money is taken out of the system completely and used to pay off borowing. Yes the debt must be managed - but overdoing the scale and speed of spending cuts runs the very real risk of painting ourselves into a corner of falling tax take and rising welfare costs - and RISING government borrowing. Indeed the disgraced Irish government did exactly that and so damaged their economy that it became impossible to cut their way out of debt and every spending reduction simply made the situation even worse hence the EuroLand bailout.

We can also learn from Japan, where their economy fell into a decade long recession which it has barely recovered from before the earthquake disaster, which may strangely help to pull them out through the massive rebuildig effort required - my sympathies to the Japanese people.

Re post 2
What he said!

#3. leftie wrote:

They'll be NO BoE RATE RISE until both The City and business generally are each satisfied that the current policy induced stagnation is over.
===================

Your certainty makes it also absolutely certain that the Long Depression of the 1870's will be as nothing to the one we are now entering.

You are right to diagnose the problem as idiotic monetary policy.

However this needn't be the case.

On Robert Peston's blog I have just introduced a new organisation the Twenty Timesers an organisation dedicated to prudential money and a national maximum income set at twenty times the national minimum wage.

This is the way to avoid the Depression trap that has engulfed the Japanese. Make money worth saving and earning again. Zero priced money is worthless and creates untold long term damage to the whole economy - it does neither rescue the banks nor borrowers. It traps the economy is a downwards death spiral. We have t escape this and the only way it to get interest rates up again. If this does not happen then all savings become a joke, including saving for a pension as annuity rates will approach zero, insurance become exponentially more expensive and prudence is thrown out of the window and the only thing that survives is bubble economies where bubbles drive out all rational business activity, such as running a business as the property required is and remains and is seen to be ludicrously over priced. So like skirts in a recession, interest rates up and we escape the depression!

I'm afraid #2, anotherfakename hasn't got to grips with the reality of capitalism.
Capitalism is about making as much money as possible in as short a time as possible for the CAPITALISTS. None of them care a fig about what some of us laughingly think of as 'society' or 'the country.'
Make it as cheap as you can and sell it for as much as you can, and the rest of us can go to hell in a handcart.

Every month we see another rise in inflation which the headline writters present as a "shock". Unfortunately it is no longer a shock and it is presenting problems in all sorts of areas...

One economist I follow on these matters Shaun Richards points this out in his analysis of the situation.

"If we for a moment look at our old inflation target of RPI-X we can see that it is indicating an even larger problem than that shown by the current measure. It was targetted to be 2.5% and today it is at 5.5% which is 3% over what was its target. I have long argued that it is a superior measure to Consumer Price Inflation and therefore it means that our inflation problem is worse than the already poor headline figure."
http://t.co/3Y9l7ti

His prescription for change involves a new form of democracy for us and as things under the old system are going so badly I think it is worth a try. At least he seems to be getting things right with his predictions.....

I am very concerned that we rely upon the opinions of economists from City investment banks (virtually foreign owned) for advice on the setting of sovereign interest rates to control inflation. These economists work for their shareholders and clients, not UK PLC and are only interested in moving markets in favour of their shareholders and clients interests. So of course they demand higher interest rates for the UK economy not to control UK inflation but to maximise their leverage opportunities, in the process driving sterling down causing further commodity price inflation. So BBC can you seek the opinions of economists who do not have such a vested commercial interest in the outcome?

Rising inflation AND rising unemployment at the same time.

All of this against a background of global recovery after recession.

The tories told us the economy was in a mess after labour and that they would sort it out.

In reality the tories seem to be making a bad situation much worse.

"British households aren't the only ones being squeezed by rising inflation. Today's batch of public finance and inflation numbers remind us that the unusual combination of low growth and above target inflation are bad news for the chancellor as well."

Sorry Stephanie but I can assure you there is a significant difference between the squeeze Mr Osborne is facing and the average British household!

Whilst the former may have a difficult job, the latter is worried at having none....

I'm gussing all those private jets will just land outside the UK, their occupants will use the bus for the rest of their journey......Thing is, MR O thought he could actually squeeze this little ball for any relevant do$h, unless of course UK airspace is full of the little blighters...How many other less highlighted money squeezing excerices which are not making the headlines?

Spending should never, ever, be constrained just because budget outlook looks bad. Spending decisions should be based on upon how much new money real economy needs.

The Bank of England can do little, if anything about inflation.

Inflation is determined by:
The increase in the quantity of money
And
The overall increase in the quantity of demandable items to purchase.

Now assuming that manufacturers limit production to the level of likely demand, (which is usually, but not always the case) then:

The total amount of new money borrowed into existence each year, will be reflected in the inflation for that year.

And whilst households are not increasing their indebtedness to any significant degree (less than 1% in 2010) the government is increasing its indebtedness substantially.

As long as money is created as debt bearing interest, then inflation must occur.
For the simple fact, that to repay both capital and interest requires there to be more money at the end of the term of the loan than at the beginning.

Overall price level of all items = (Total amount of money) / (Supply of all available items to purchase)

The 4.4% inflation rate is NOT a problem because the BOE have already said that they EXPECT inflation to hit 5% this year...

And then it will GO DOWN AGAIN...

So everything is UNDER CONTROL...

Defintely!... Maybe?...

Thank you Stephanie for continuing to mention RPI as it seems now media consensus we talk about inflation purely in the deceptive terms of CPI which the government want to use to uprate benefits/pensions and cheat people out of their income.

Inflation busting pay increases are just around the corner because the lid will have to come off soon as people are losing one twentieth of their real spending power every year.

Its concerning that the myth that we can't do anything about imported inflation is gathering steam.

That's what interest rate rises are ACTUALLY FOR.

Improve value of pound. Make imports cheaper. The pound is 20% devalued compared to 5 years ago. If we lag behind on interest rates it'll only get worse.

Interest rises are not just to manage domestic inflation and growth. It's the main benefit of having your own currency, but for some reason the BOE and others are saying "tut, is imported inflation" or "global factors" as if there is nothing they can do. Yes other factors go into currency strength, but interest rate is a key driver.

Whether its right or wrong to raise them soon, this myth of "nothing we can do" must be stopped.

It's basic economics, and ignoring it is frightening

9. At 12:37pm on 22nd Mar 2011, richard bunning wrote:

........ which IMHO are about as much use as a chocolate fire guard in the current climate.
-------------

Whilst I have to admit I don't understand a blooming thing being written on this blog, your above turn of phrase stuck out as priceless - and I hope to find something elsewhere which I understand where I can use it!

Not all economists believe in money illusion, only the better ones. Of course there is something of a solution:

Krugman blog February 16, 2011:

"Alex Tabarrok makes an interesting point: recent experience seems to suggest that Keynesian policies, even if appropriate, turn out not to be politically feasible when you need them. I don’t think we need to take that as an immutable fact of life; but still, what are the alternatives?
Increased wage and price flexibility is NOT the answer: you need fiscal policy when you’re in a liquidity trap, and as some of us have tried to explain many times — apparently without getting through — those are the conditions under which falling wages and prices are likely to make things worse, not better.
Better regulation, so that crises don’t happen as often, would be good. So would stronger automatic stabilizers.
But what really stands out, if you assume that discretionary fiscal policy won’t be there when you need it, is that this makes the case for a higher inflation target. Olivier Blanchard, at the IMF, made just that case a year ago (pdf). If we’d come into this crisis with 4 or 5 percent inflation, not 2, there would have been more scope for conventional monetary policy to act before hitting the zero lower bound.
But the same people denouncing Keynesianism are also screaming about inflation, and would never countenance a higher inflation target. So what can we do if that, too, is ruled out?"

As so many people seem to think any interest rate increase has to be ruled out due to the possible effect on mortgage payments, can I suggest the alternative of an annual property tax as another way to get a reduction in property prices. Unless house prices (and rents) can be reduced by, 25% to 40% from current values over the next few years the UK cant compete internationally simply due to workers needing to earn an irreducible minimum to put a roof over their heads.

Mind you, we cant be quite as short of money as we thought if we can afford the tens (swiftly turning into hundreds) of millions of pounds we're throwing at Libya without apparently even having to think about the cost. Its not as though we expect to get any of that back (I hope). Maybe its to be paid using the rumoured private jet tax ?

I didn't expect to hear the BBC blaming this inflation on the orgy of money printing done by the last government. That would be as unlikely as the BBC shouting out to its flock how good business confidence is at the moment.

http://www.kpmg.com/UK/en/IssuesAndInsights/ArticlesPublications/NewsReleases/Pages/UKbusinessconfidencehitsnewhigh,saysKPMG.aspx

Along the lines of your first contact chris-cat...can someone (an economist maybe) explain in basic lanuage how raising interest rates will reduce inflation in this currect financial situation. In boom times where demand outstrips supply, I understand (pigs in the market!!), where inflation is the result of non consumer based influences, how would it work/help??..... as another writer commented, the only way we are going to get out of this mess is through manufacture and export, not through banking and the service industry, just for once will someone acknowledge this and truely support manufacturing, not just in words, this would create jobs and hopefully and more importently, create a demand for skilled people that might create the incentive to train some of our less academic kids who seem to have been abandoned...not everyone can or wants to be an academic, some people just want to work with their hands and I would argue they are worth just as much if not more to the ecomomy and society. We seem to have created a society where, if you dont have a degree, you are a failure, manual skills are just as important.....I am now off my high horse but feel better....someone please agree with me..!

Is it any wonder inflation has gone up? Everyone knows if you print money inflation increases and these increases are the direct result of the previous Labour government's policy of quantative easing; i.e. printing money.

SF 'CPI inflation jumped up again in February, to 4.4%. It is overstating it to call it a "shock" number, as some City commentators have. But it is somewhat above market expectations - and above the Bank of England's central projection in the Inflation Report forecast published only last month.'
-------------------------------------------------------------------------------
No shock. No surprise. To the rest of us ...

I forecast it will go up again next month. And maybe down in April.

But on the other hand ...

not that bothered if my primark "2 t-shirts for £1.50" is now going to cost £1.57, but as for that lovely pair of jimmy choos my wife wants......

I am afriad that your views on inflation are becoming less and less coherent Stephanie. For example you tell us today that.

"CPI inflation jumped up again in February, to 4.4%. It is overstating it to call it a "shock" number, as some City commentators have."

But back on the 1st of October you told us this.

"With the possible - very limited - exception of inflation expectations, it is hard to identify a single indicator suggesting inflation is about to pick up."

So I am afraid that to you the pick-up in inflation has been something of a shock.

Why are we so surprised about inflation? Inflation is always going to be designed in. The Bank of England target of CPI 2% MEANS - no lower, no higher - but 2%. 0% Inflation would be regarded as bad. 4.4% is regarded as ??? who knows. Good perhaps as it is the act of desperation to reduce the debt by creating more debt based money.

"Allowing commercial banks to create the nation’s money supply has led to incredible inflation. Since 1950, prices have risen by 2,554%. A product that cost £1 in 1950 will now cost £25.54; put another way, £1 in 2009 is only worth as much as 4 pennies from 1950. Even these figures may understate the real extent of inflation, as the official inflation figures do not take account of the largest item in anyone’s expenditure: housing. Between 1952 and 2010, house prices have risen by 8,613%.

This inflation is not a ‘fact of life’ – it is a result of allowing banks to create all money as debt. Firstly, there is a ‘cost-push’ effect on inflation: since all money is created as debt, then in order to have a money supply in the economy, individuals and companies must share the debt. In order to get out of debt or even just to pay the interest on ever-expanding debt, workers will always need to demand higher salaries, and companies will always try to increase prices by a little each year.

Secondly, there is the ‘demand-pull’ effect: as banks create as much money as they can in order to maximise their profits, this creates a debt-fuelled spending boom in the high street where businesses take advantage of the buoyant economy to raise their prices. In the case of housing, lax lending policies by the banks meant that people could borrow more and therefore ended up paying more, even though the houses were no bigger or of better quality. Uncontrolled creation of money by profit-seeking banks is the main cause of inflation."

The Bank of England is also responsible as they provide the "Moral Hazzard" with the full support of people like Gordon Brown. Iceland allowed the Banks to fail and they are recovering faster than the UK. Think about it.

Here’s a radical thought (not really I’ve said it before):

Take futures off the banks and in the hands of the BoE or government and use these as inflation busters!

As Gordon Brown handed over £200 billion pounds to the Banks (with the help of Merv) - can anyone explain to me how this would NOT cause inflation?

(I think it has caused inflation.)

If Gordon Brown had not sold half the UK's Gold, would we be in a better financial position today?

(I think we would have. Gold has more than quadrupled)

We are suffering stagnation and a serious decline, leading to a collapse of our

economy. This increase in the inflation rate will only bring that day closer.We need

a dramatic change in direction and the latest action in Libya points the way. History

has shown us that major conflict between nations has rescued this country in the

pass. Radical...Extreme..Yes, but no more radical than the present governments

policy of involvement in the middle east (just on a larger scale ). What, if any

options are available to us?

re #1
You are right that raising rates will not address the present inflation. But rates need to be raised soon to take our money back to being 'proper' money.

The dropping of rates was done because some economists think we are like Japan, they (and the Government) wanted to prop up the Stock Market and the Government (and some economists) did not want to crash the housing market as unemployment started to rocket. Oh, and because some economists, and one in particular, were predicting severe deflation. One more thing: other nations dropped their rates in response to the Credit Crunch and Banking Crisi Pt.1 - had we not done the same, the pound would have appreciated to the point where it would have been much more difficult for our exporters to sell abroad.

Some of the factors have changed now, so it is right to consider increasing rates. No-one is suggesting a sudden jump to 5% although that would probably be an appropriate level. The likely move is 1/4% or 1/2% a quarter or thereabouts over eighteen months.

re #23
Nice one.

That's what we want. Cheering up. Ta! :-)

Agree completely with anotherfakename comment

But the people who think they are in control dont see sense in common sense. Another thing - Look at the dreadful photos of the damage in Japan. You will not see car that was not made in that country - there are none

There is an interesting comparison of attitudes and how certain groups in society think and behave.

1. Japanese Reactor workings who are battling the Reactor Cooling system to prevent another explosion.

2. International Bankers who ask for Bail outs on bad debt they encouraged.

The first group are prepared to sacrifice their own lives for others in their Country.

The second group are prepared to sacrifice everyone else, except themselves.


Japan Crisis:

"Foreign bankers flee Tokyo for Singapore and Hong Kong. Japanese work on"

'To hell with with our Japanese colleagues' - they say by their actions.

How to tell a Banker in an emergency: While everyone else is running towards the problem to find out how to solve it, Bankers run in the opposite direction and then claim compensation for the inconvenience while others die and suffer. The Bank 'Bail Outs' are a prime example of this.

cut taxes. pure and simple. it might not seem like the right thing to do, but one proven way to reduce the cost of administration (government) and foster growth is to give money back through lower taxation. business will benefit and in fact pay more tax through success. im a liberal but convinced the hong kong model we created works. in fact dont take my word for it but ask the chinese who have adopted the model too.

Over and over we are told that inflation is higher and for longer than BOE expected. Quantative easing =inflation so no-one should be surprised. Any suggestion that inflation won't feed through to wages is unrealistic. It may not feed through immediately but as soon as employees think employers can afford it the pressures will be enormous. Please don't lets pretend that we didn't see it coming. The statistics may say 4% or 5% but most bills are going up far more than this - BT yesterday said 9%. And when dating agencies replace rose bushes in the stastics it all becomes a big joke. I haven't bought a rose bush for years though I'm a keen gardener. And no, I've never used a dating agency. My council is proposing to increase my allotment rent by 300% next year - I hope that will be in the statistics, because that and my car insurance between them will take a huge chunk out of one month's wages.

Inflation will get worse now. If Libya sucks us in to yet another civil war, or extended "no fly zone", we will have to borrow more money to pay for it.

This means Merv will keep pressing the Green Button marked "PRINT" until his finger bleeds. Taxpayers savings and reduced purchasing power will pay for it.

David Cameron = Tony Blair.

Has JP Morgan offered a Job to David Cameron yet?

"42. At 13:54pm on 22nd Mar 2011, Conrad wrote:
Inflation will get worse now. If Libya sucks us in to yet another civil war, or extended "no fly zone", we will have to borrow more money to pay for it.

This means Merv will keep pressing the Green Button marked "PRINT" until his finger bleeds. Taxpayers savings and reduced purchasing power will pay for it.

David Cameron = Tony Blair.

Has JP Morgan offered a Job to David Cameron yet?"


David Cameron = Tony Blair; how does that compute?

42. At 13:54pm on 22nd Mar 2011, Conrad wrote:
Inflation will get worse now. If Libya sucks us in to yet another civil war, or extended "no fly zone", we will have to borrow more money to pay for it.

This means Merv will keep pressing the Green Button marked "PRINT" until his finger bleeds. Taxpayers savings and reduced purchasing power will pay for it.

David Cameron = Tony Blair.

Has JP Morgan offered a Job to David Cameron yet?

.............
Very good, although JP Morgan staff may be looking for work soon if there is any truth to their massive hedge of silver.
As long as the debacement of the dollar continues there is no end to inflation in commodities. Well until it collapses that is.
http://www.zerohedge.com/article/gold-just-1-record-nominal-high-1444oz-risk-dollar-crisis-increases-day

19. At 13:00pm on 22nd Mar 2011, Dempster wrote:
As long as money is created as debt bearing interest, then inflation must occur.
For the simple fact, that to repay both capital and interest requires there to be more money at the end of the term of the loan than at the beginning.
----
I disagree. When a loan is repayed back, only the principal money is destroyed. The interest money is kept by the creditor. For your assertion to be true then the interest money would also have to be destroyed, i.e. more money is being destroyed than was created!

What happens is there is a flow of interest from debtor to creditor over the period of loan. Once interest has been paid, in order for the debtor to be able to repay the creditor the full principal amount, the debtor has to get back the interest paid to the creditor. The debtor can do this buy either working for a wage for the creditor, or by selling assets to the creditor. No inflation is required for this system to work.

Won't the Governor of the Bank of England reverse quantative easing to reduce money supply before raising interest rates?

# 1 chris_cat
Your right not stupid.

The BOE cannot put up interest rates, because it would create a boom in bankruptcies and repossessions, which in turn could lead to a bigger property crash than we are already experiencing.

Surely inflation caused by rising global commodity prices is a totally different animal to inflation caused by wage inflation within one country?

I doubt whether the Chancellor or the Governor will either be surprised or too disturbed by these figures. It could even be that they feel that things are going according to plan.

As Stephanie says, there is a silver lining to inflation for the Treasury in that it reduces the real value of the public debt. It is effectively a stealth tax on savings which is used to pay off public and incidentally private debts, particularly those resulting from unwise lending by banks before the crunch.

The much argued about cuts in public expenditure will, as many pointed out, make little difference to the deficit, certainly in the short term, because they will depress the governments' income as well as its expenditure. Their real advantage for the coalition is that by keeping unemployment high, they prevent wage increases keeping pace with inflation, so that employers' margins are high and encourage the expansion of private employment. So that there is also a stealth cut in real wages for workers.

There is no need for the Governor to increase interest rates to control inflation, because unemployment will prevent a vicious circle developing.

The recipe is for the "private opulence public squalor", that right wing governments seem to admire.

Too big to fail is turning out to be too expensive to rescue ....

"22. At 13:07pm on 22nd Mar 2011, Jon wrote:

Its concerning that the myth that we can't do anything about imported inflation is gathering steam."

Hear, Hear Jon.

It is well known that inflation = covertly stealing wealth and destroying the social basis of the western democracies, decimating the only wealth-creating part of society: middle and working classes.

The end-result has always been the same - a pauperisation of society followed by dictatorships. This is happening as we speak.

Those in charge of monetary policy typically are so well cushioned from the real life by their own wealth or by public pay and expenses allowances that they will say "Qu'ils mangent de la brioche", and will wake up too late - when barricades are up and guillotines in full swing.

Stephanie,
The problem facing the MPC in thinking about a knee-jerk rate rise is remarkably 1970s-like. Such a high proportion of the inflation rise is imported. So if you increase interest rates you may only choke off domestic consumption while leaving inflation largely unchanged. I remember James Meade polictely pointing this out during an era of lunatic putative monetarism in the late 1970s to a chorus of vacant stares and derision. Economic history sometimes repeats itself....

It this Inflation, the cost of money in circulation with the calculated loss of interest from non deposited assets plus the additional revenue that is gained from value added purchases over a fixed quarterly projection, as it is a bit obscure from the published figures as to what the real value is in today’s terms.

• 45. At 16:29pm on 22nd Mar 2011, EconomicSlave wrote:
19. At 13:00pm on 22nd Mar 2011, Dempster wrote:
As long as money is created as debt bearing interest, then inflation must occur.
For the simple fact, that to repay both capital and interest requires there to be more money at the end of the term of the loan than at the beginning.
----
I disagree. When a loan is repayed back, only the principal money is destroyed. The interest money is kept by the creditor. For your assertion to be true then the interest money would also have to be destroyed, i.e. more money is being destroyed than was created!

If I loan you £100 @ 5%, for one year, how much money will you need to repay at the end of the term?

The answer is of course £105.

The £100 loan came from a deposit, which in turn likely came from another loan/deposit ad (virtually) infinitum.

In any event the constant re-loaning (at interest) of money inside the closed loop of the fractional reserve banking system ultimately must create more money as interest has to be found and paid.

The rate of inflation per annum should equal the percentage increase in the quantity of money during the course of the year, which in turn should equal the total amount of interest paid.

@49. At 17:15pm on 22nd Mar 2011, The-itinerant-ex-pat wrote:
"Too big to fail is turning out to be too expensive to rescue ...."

The following comes to mind:

http://www.independent.co.uk/news/it-would-be-cheaper-to-lower-the-atlantic-1312196.html

I particularly liked:

"A wrenching sound of snapping cables marked the moment when they lost their hold over the 15-tonne section of the Titanic's hull. Before an audience of 1,700 tourists who had paid to watch history being resurrected, the balloons holding her in place broke free and the sea reclaimed her............it would be cheaper to lower the Atlantic than raise the Titanic."

Tickets anyone?

In my view inflation is nothing to do with politics, or for that matter economics.

Total government and household debt is currently around £2,500 billion
Assuming an average interest rate of 5%
The amount of interest this year is £125 billion

Therefore to service the debt means that £125 billion of new money must be created, otherwise debtors will default.

Now assuming £125 billion of new money is created, the total amount of money will increase by 5%.

The new money can be created as debt (which is normally the case) or by quantitative easing. How it’s created doesn’t really matter as far as inflation is concerned.

Because if the increase in the amount of money is 5%, then it naturally follows that inflation will be around 5%. Which unsurprisingly is shown in the RPI index:

Retail price index (all items) RP02:
Jan 2010 = 217.9
Jan 2011 = 229.0

Retail price index (all items) RP02:
Increase = 5.09%

Where the speed of transaction and the overall propensity to save, spend and consume is reasonably constant, then:

Overall price level of all items = (Total amount of money) / (Supply of all available items to purchase)

Annual inflation = Annual increase in the amount of money

Therefore assuming debtor default rates are constant.
Higher interest rates = Higher inflation
And
Increase in debt = Increase in money = Inflation

Now given that 97% of all money is created as debt (notes and coins accounting for around 3%)

Then the total level of Government and household debt must rise commensurate with the average interest rate on that debt, thus allowing sufficient new money to come into existence to service the interest on the debt.

Real wages down -> quantity demanded down -> spare capacity up -> real wages down

{With CPI & RPI outstripping wage growth real wages reduce. Since most people have negatively sloping demand curves when their wages decrease the quantity of the goods they demand decreases. As the quantity of goods demanded deceases spare capacity increases, this means more people chasing fewer jobs and subsequently a reduction in real wages. The loop then continues. By letting inflation get out of hand the MPC have contributed to a reduction in demand. If there were the, incorrectly feared, case of deflation then given that demand curves are negatively sloping people would be able to buy more, and the vicious circle would become virtuous. Not worrying about CPI but worrying about wage inflation is the wrong way round}

I am still sure I must have this wrong as it is completely the opposite to MK and the MPC, and since MK has been in charge he has met his 2% CPI grpwth target so well.

In January 2009 The Bank of England reduced interest rates to 1.5%, and finally to 0.5% in March 2009 (the lowest rate since the BOE was founded in 1694).
In addition to the above the B.O.E. started Quantitative Easing in early 2009.

Since these actions were taken, the following has occurred:
(All figures noted below are sourced from the Office for National Statistics website):

Retail price index (all items) RP02:
Jan 2009 210.1
Feb 2011 231.3
Price inflation = + 10%

Average weekly earnings whole economy (not seasonally adjusted):
Jan 2009 Average weekly earnings = £444
Jan 2011 Average weekly earnings = £461 (provisional)
Increase = + 3.8%

Banks can raise funds from the BOE @ 0.5%.
And
Banks can lend that money out @ whatever they damn well please.

So if you didn’t know what that price of bailing out the banks actually is.
Now you do.

George Osborne could always follow the example of a Labour leader like Atlee who led the UK through a far more stringent bout of austerity between 1945 and 1953; far more stringent than anything we have now, as Atlee maintained 'rationing' and credit and some capital controls and Atlee also applied strategic control of UK imports by maintaining rationing ... and gradually the UK economy stabilised but lacked capital investment and co-operation from the private sector ... just in time for Winston Churchill to pick up the reins again, at the next election!

There is something in there for George Osborne!

@Dempster

When a person takes out a loan, new money is created. It leads to the creation of both a debtor and a creditor. Lets say this loan is 100 pounds.

Debtor has 100 pounds. Creditor has IOU 100 pounds. 100 Money = 100 Debt.

The debtor makes a 20 pound repayment installment, 10 pounds of which pays off the principal debt, and 10 pounds of which is paid in interest.

The Debtor now has 80 pounds. The Creditor has IOU 90 pounds and 10 pounds. 90 money = 90 debt.

The money to pay off the principal is still in the system, but it is now split between both debtor and creditor.

Raise interest rates and there are so many benefits:

1. The pound rises in value meaning an instant reduction in the cost of imported goods = reduced inflation.

2. Savers feel more confident as they have more interest on savings to spend in the real economy

3. House prices fall even more meaning that those who have been priced out of property can buy

4. UK manafacturing sees the cost of imported raw materials fall meaning they can be more competitive.

5. The UK starts the path to having real money and avoiding the 20 year depression that the Japanese suffered when they kept interest rates near zero and destroyed saving and investment.


Saving a few hundred thousand overmortgaged borrowers who paid too much for property in the boom is just not a good enough reason to ruin the rest of the economy by destroying the value of money.

In response to #27, #52 and other comments on rates vs. inflation:

Higher rates imply

1 currency more attractive to park money in hence stronger in FX terms
2 financing more expensive for businesses / individuals (unless offset by 1)

Some of the implications of 1:
- Cheaper industry input costs (metals, petrol, etc)
- Cheaper consumer imports

Some of the implications of 2:
- Reduced spending hence reduced demand
- Reduced business growth hence reduced payroll growth

etc..

Hope this helps!

Post #62 said higher interest rates reduce spending.


As there are twice as many savers than borrowers in the UK I would think the opposite would be true.

What was wrong with the Half Penny that it had to be withdrawn from circulation. Was it because members of parliament kept on stealing the Staff of Office or could it be that Mr. Speaker finally met his match.

60. At 18:22pm on 22nd Mar 2011, EconomicSlave

I think you will find that the £10 repayment gets set against the £100 the debtor or bank didn't have in the first place.

Well, as an awful lot of people have had pay freezes or pay cuts in the UK, the Consumer led economy has slumped.
Rich Investment Bankers do not buy enough ordinary goods to maintain a healthy economy.
A few years ago I wrote give the Public Sector a ten percent pay rise.
Such a thing, had it been done, would have boosted the Consumer economy, created jobs, created extra tax revenue, etc.
But the Gov't of the day, and the Gov't of today are wedded (or shackled) to one sided them and us Pay policies.
For them it is okay to pay Bankers huge bonuses, and yet wrong to give a nurse or teacher a cost of living rise.
On Workers pay, the priorities of these Gov'ts have been and remains all wrong.
They seem hell bent on dividing and ruining this country.
Whilst the Bankers are still free to make up new Money Games in the City.
What comes after Spreadbetting and shortselling ?
They'll think of something nasty, I'm sure.

Dempster
Why do you continuously ignore the repayent of private debt?
As others have pointed out M4 is decreasing, not increasing.

"Seasonally adjusted M4 grew by 0.8 per cent in January 2011. The twelve month growth rate to January 2011 was -1.7 per cent [Table S3.1A]."
ONS"

http://www.statistics.gov.uk/downloads/theme_economy/finstats-mar2011.pdf

Rules to Finance:

The first rule of finance. Nobody talks about finance.
The second rule of finance. You are the economy.
The third rule of finance. Interest is accrued over a length of time.
The fourth rule of finance. I could tell you but then I would have to charge you.
The fifth rule of finance. What's in it for me.
The sixth rule of finance. That’s going to cost you.
The seventh rule of finance. It is not worth it.
The eighth rule of finance. Does it have a residual value.
The ninth rule of finance. Show me the money.
The tenth rule of finance. Spend everything down to the last penny.
The eleventh rule of finance. Leave it out.

22. At 13:07pm on 22nd Mar 2011, Jon wrote:
Its concerning that the myth that we can't do anything about imported inflation is gathering steam.

That's what interest rate rises are ACTUALLY FOR.
--------------------------------------------------------------------------------
The guy on the Beeb at 6.something this am got it right for a change - a lot of our inflation is self-inflicted via taxation. The rest is mostly imported, 'tis true.

Interest rate rises will not cure the current inflation problem.

Look back at my old posts from earlier this month for an explanation. The choice is between moving VAT back down to 15% (favoured by Nautonier and others) or consistently cutting fuel duties over a couple of years (my choice) but both will have to be backed up by some tax rises from somewhere.

You are right to suggest currency appreciation triggered by interest rises would have an effect on the bare imports but not on the taxation thereof - which is where the weight of the problem lies. Plus, cheaper imports may encourage consumer spending of the worst sort (when we would like to encourage home manufacture - 2.5m unemployed, remember) and we could get into an interest rate escalation race with other countries - which we might or might not win without collateral damage to those with home mortgages.

It is a very delicately balanced and complex problem facing the Chancellor tomorrow and for the next four years and three months, if he's lucky. I'd prefer him to be lucky AND good. Some of his predecessors were merely lucky.

re #68
:-)

Rule 12a: Try and do some work for an overseas subsidiary
Rule 12b: Tuck as much away as possible offshore.
Rule 13: Buy a holiday home outside the UK



Rule 14: Keep odds and sods of various currencies in a cardboard box under the bed






Rule 15: Ensure your passport up to date

{I know what the clever thing to do is. Why didn't I do it? Hhmmmn.}

I've got an idea. Let's reset all liquid assets to 0 (for those that still work, or can work). That means no debt for anyone (and no savings). All tangible assets stay in the hands of the people that need them (not the banks and bankers).

Can I ask why we didn't let the banks go to the wall? I envy Iceland for having the 'balls' to do it. Surely if you live by capitalism, then surely you die by the same sword? Same with the Equitable Life shareholders, why did they get their investment back?

Re #70.

The Rules of Finance do work a bit like the Ten Commandments and when Moses parted the RED SEA did anyone think to pick up a shell.

Well for a start the sorry flipflop condems should get rid of Merv and the MPC as they have failed and have no chance of bringing inflation under control. While it is typical Tory policy to drive up unemployment and let inflation run a bit to drive down real wages for the masses this time there is a very real risk of global hyperinflation. All the world banks happily printing money to try and outmanoeuvre each other are going to leave us all holding worthless bank notes. Buy land, oil, food, copper just don't risk holding money or debt.

It's all a non point to me.

Until the economy isn't set up to support / bail out the banks then we have no hope of a meaningful recovery. All banks seem to do is skim wealth off the real economy while producing no wealth itself.

Then don't forget derivatives... All that's happening now is the banks sucking up as much money as possible to try and save themselves from impending doom. One that cannot be prevented for some.

We should have let the banks go bust then all these toxic loans and toxic derivatives would have died with them.

Many here have bought the government bull**** (and no it doesn't matter who the government is, they all learn to obfuscate at their mother's teat). Is the official measure of inflation the real inflation you experience? Of course not. Not even close to an average of all those who read this blog.

The only real measure is TPI. That is, Inflation including Tax and Interest. By that measure inflation is much higher than the official rate, and will rise even higher after the imminent budget and the first interest hike.

The pound in your pocket *has* been devalued. And will continue to devalue. Can you really tell me that this is going to lead to lower inflation?

67. At 19:13pm on 22nd Mar 2011, EconomicsStudent wrote:
Dempster
Why do you continuously ignore the repayent of private debt?
As others have pointed out M4 is decreasing, not increasing.

"Seasonally adjusted M4 grew by 0.8 per cent in January 2011. The twelve month growth rate to January 2011 was -1.7 per cent [Table S3.1A]."
ONS"

http://www.statistics.gov.uk/downloads/theme_economy/finstats-mar2011.pdf

-------------------------------------------

Fair point E.S.

But what's the difference between the growth rate and growth?

The total amount of money in an interest bearing debt based monetary system cannot decrease, it has to grow.

But the growth rate of money can decrease.

60. At 18:22pm on 22nd Mar 2011, EconomicSlave wrote:
@Dempster

When a person takes out a loan, new money is created. It leads to the creation of both a debtor and a creditor. Lets say this loan is 100 pounds.

Debtor has 100 pounds. Creditor has IOU 100 pounds. 100 Money = 100 Debt.

The debtor makes a 20 pound repayment installment, 10 pounds of which pays off the principal debt, and 10 pounds of which is paid in interest.

The Debtor now has 80 pounds. The Creditor has IOU 90 pounds and 10 pounds. 90 money = 90 debt.

The money to pay off the principal is still in the system, but it is now split between both debtor and creditor.

--------------------------------

O.K. E.S.

Based on the assumption that you accept that Fiat currency (notes and coins) was the (and still is) the primary start of money creation (many now don’t) but that’s a separate issue.

Then the initial deposit of £100 is fractional lent at 95% to the debtor.
The debtor then purchases a ‘thing’ the vendor of which then deposits the £95.00 in his bank.

His bank then lends out 95% of the £95.00 to A.N. Other, who then purchases something else, and so on.

In reality original money (Fiat currency) is being lent and re-lent many times over, each time with an interest bearing penalty.

And every time it’s lent out it creates a deposit.
And all these deposits are ultimately based on debtors promises to pay, because if default occurs, deposits cannot be redeemed.

56. At 18:07pm on 22nd Mar 2011, HamAndStilton wrote:
&
58. At 18:12pm on 22nd Mar 2011, HamAndStilton wrote:

I’m not sure whether I should thank you H&A, but still, that’s the first time anyone’s ever copied and pasted a blog of mine.

Re post #12.

You are absolutely correct, that is indeed the way the world works. Where you are going wrong is your assumption that you are stuck with being a part of "the rest of us". The whole simple, glorious point about the model of capitalism that you succinctly sum up is that it instills a "hey, those guys are making lots of money; I better get some of that action" in us.

Your destiny is in your hands and if the world revolves around money then, like it or not, you are pretty foolish to sit there whinging about it instead of figuring out how you can get obscene amounts of it. Life is too short.

Re#28
Is it any wonder inflation has gone up? Everyone knows if you print money inflation increases and these increases are the direct result of the previous Labour government's policy of quantative easing; i.e. printing money.

The QE was used by the BOE to buy Government debt from the bankrupt banks to make the banks look more solvent. It is still on their balance sheets and hasn't gone anywhere (try getting a loan from them). As such QE has had no effect on inflation.

the ECB will raise interest rates next month and the BOE will be under big pressure to follow.

Portugal will have to be bailed out, very soon = british bank exposure = increased exposure for UK govt. who are guaranteeing some of these banks = ever higher borrowing costs for the interest on the deficit = more pressure on the UKs AAA rating.

This is really what it's all about.

"Net borrowing was 11.8 billion pounds ($19.3 billion), compared with 9.5 billion pounds a year earlier. The median forecast of 13 economists in a Bloomberg survey was for a reading of 7.2 billion pounds. Government income fell 0.9 percent and spending rose 4.6 percent."

http://www.bloomberg.com/news/2011-03-22/u-k-gilts-extend-declines-as-inflation-exceeds-estimates-deficit-widens.html

The trouble is that once expectations of inflation start rising, then wage increases will follow and then the positive circle of inflation drives more inflation comes into play. As a result, it is a case of when and how much interest rates rise by - the sooner, the less the amount. The longer that it is left, then the more they will have to rise by when inflation changes from "cost-push" (driven by rising base costs) at present to demand-pull - when people have more money from pay rises and so on, which drives inflation even more. The only cure is high interest rates, which take money out of the economy at the cost of increased housing costs and also increased unemployment.

However, a side-effect of raising interest rates would be to strengthen the pound on international markets, cutting the cost of import goods that so often are bought on credit. It might also deter people from borrowing so much to buy them.

Just heard Steph saying that G.O has got some money to play with as borrowing has come in lower than expected. How does this work? If I was £140 in debt instead of £142 I wouldn't have £2 to spend but another £140 to save. If this isn't the problem with the nation's view of money I don't know what is.

"Mr Osborne's squeeze"

++++++++++++++++++++++++++++++

What do you mean? Him squeezing us or vice versa?

Either way it's not something upon which to dwell.

sandy winder wrote:

"I didn't expect to hear the BBC blaming this inflation on the orgy of money printing done by the last government. That would be as unlikely as the BBC shouting out to its flock how good business confidence is at the moment"

http://www.kpmg.com/UK/en/IssuesAndInsights/ArticlesPublications/NewsReleases/Pages/UKbusinessconfidencehitsnewhigh,saysKPMG.aspx

Hey...KPMG are hardly going to say anything else are they. After all, they are doubtless already thinking-up new ways to avoid as much, if not all, tax as they can...for their clients....is one of them the chancellor ?
The Big Four are costing this country more than the combined talents of the criminal community. and legally. They have more offices abroad than the inland revenue has tax officers at home (soon to be a lot less tax officers as well)
The chancellor is not REDUCING the deficit, he is merely reducing its rate of increase a little.

I don't really care if interest rates go up - I haven't got a mortgage (I rent) and I can't even begin to afford to save.

I am a bit more than a little cheesed off to see my wages being reduced in real terms by inflation and a knackered economy as I am expected to take part in austerity measures to pay for foolish decisions taken by bankers, property owners and credit card users in a boom that I for one didn't take part in...

71 I am with you. Why did we not let the banks fail as Iceland did. Some people will have lost their money but as the richest people had most to lose, I wonder if that was why it was saved? The ordinary man on the street would not have lost a fortune as most of us do not have millions in the bank.

77. At 20:48pm on 22nd Mar 2011, Dempster wrote:

60. At 18:22pm on 22nd Mar 2011, EconomicSlave wrote:
@Dempster

When a person takes out a loan, new money is created. It leads to the creation of both a debtor and a creditor. Lets say this loan is 100 pounds.

Debtor has 100 pounds. Creditor has IOU 100 pounds. 100 Money = 100 Debt.

The debtor makes a 20 pound repayment installment, 10 pounds of which pays off the principal debt, and 10 pounds of which is paid in interest.

The Debtor now has 80 pounds. The Creditor has IOU 90 pounds and 10 pounds. 90 money = 90 debt.

The money to pay off the principal is still in the system, but it is now split between both debtor and creditor.

--------------------------------

O.K. E.S.

Based on the assumption that you accept that Fiat currency (notes and coins) was the (and still is) the primary start of money creation (many now don’t) but that’s a separate issue.

Then the initial deposit of £100 is fractional lent at 95% to the debtor.
The debtor then purchases a ‘thing’ the vendor of which then deposits the £95.00 in his bank.

His bank then lends out 95% of the £95.00 to A.N. Other, who then purchases something else, and so on.

In reality original money (Fiat currency) is being lent and re-lent many times over, each time with an interest bearing penalty.

And every time it’s lent out it creates a deposit.
And all these deposits are ultimately based on debtors promises to pay, because if default occurs, deposits cannot be redeemed.
------
I think you will find my example assumes 100% credit money, so I am not sure where the fiat money comes into this.
You need to think about interest flows before accepting zeitgeist at face value. The interest accumulated by the creditor will be re-distributed, either by dividends or bonuses. (The latter seems more important now) No major investor will hold onto inflating (devaluing) currency for too long - they will use it to buy assets, and the money will circulate through the seller of the asset.
Inflation is not linked to the interest required to repay debt. Inflation occurs when there is a disconnect between the desire to accumulate debt, and the actual output of the economy.
It is nothing to do with whether a monetary system is based on a commodity either. If I have output O, supported by an amount of gold G, if I dig up another amount of gold to the amount of G, I now have 2G = O. Inflation has occurred.
So, if we lend ever increasing amounts of money to the population so they can outbid each other for a house, the house will increase in currency denominated value. However, it is still house. When that amount of money is no longer chasing housing, it has to compete for something else.
Inflation is not a result of QE, QE is the result of past credit money expansion.

Your all getting close to understanding the true issue here, that being the constant and rapid increase in the global population. We need a plan followed by crucial number, how many people can this planet sustainable accommodate. So lets say its 8 billion, with this established global commodities will be more sustainable which means controllable inflation. We now have stable base /platform to plan out the rest of the gubbins.

76. At 20:36pm on 22nd Mar 2011, Dempster wrote:
The total amount of money in an interest bearing debt based monetary system cannot decrease, it has to grow

From what you say below I think you accept that repayment reduces bank deposits/bank reserves/the money supply so I assume you are bringing public debt, that receives Govt interest, to the argument .
We have different ideas on the nature of public debt. In my view you can treat it a number of ways.
1) The interest is 'Govt spending' to reward the wealthy
2) Issue of debt is a monetary policy to drain reserves from the economy
3)Politicians and economists mistakenly think they need to borrow in order to spend and simply do not understand the monetary system we exist in.

I've said this before and its trivial but highlights the point, whats to stop the govt from borrowing from the state banks at 0% and paying it back later if makes everybody feel better?


77. At 20:48pm on 22nd Mar 2011, Dempster wrote:
And all these deposits are ultimately based on debtors promises to pay, because if default occurs, deposits cannot be redeemed

Now I do have a problem with private debt defaults. As you say the deposit created stays out there. I am currently trying to establish one way or another whether the money supply does fall or not when the banks write it off.

Current thoughts on this are:
When the banks write this debt off in their books, there is no 'write off' in an accounting sense because the the loan is a bank asset i.e. nothing to do with sales/income/profit and loss. The write off is a balance sheet transaction, perhaps against some kind of provision but again you have the same problem that a provision implies that, previously some kind of reduction in profit has been recognised, this can't be the case for bank loans though because as I've pointed out its all on the balance sheet.

The logical way to remove the debt from the books and to maintain equivalence with a reduction in the money supply would be for the bank to 'pay' the debt of of its own cash balances.

If there is any bank accounting expert out there who can confirm this, I'd be grateful for his or her view.

How is this all going pan out? Consumers with less disposable income will not be able to afford to buy goods from the high street. Business affected by the downturn will have to cut and run or adapt. Adapting will mean employing less staff and loosing some. If staff are made unemployed, they join an ever growing army of job searchers. If there are fewer jobs paying regular wages, disposable income falls even lower.
We live in a highly stratified society now and I can see a time when the poor are physically, as well as financially segregated. The middle class will occupy the zone where the poor used to operate and the poor will be forced to shop on the internet or in their local, overpriced and poor quality convenience stores.
Anyone surprised that the poor will resort to shopping online needs to think again. Shops offering delivery services are going to win. If shops also offer incentives as part of that delivery package, they will win. Menial low paid work opportunities will become more available in such stores as they will need more pickers and packers. The very design and layout of supermarkets may change to meet the new challenges. Stores that provide employee transport will be able to offer a greater range of shifts and opening hours.
Supermarkets are the modern day factory floor and the goods are mere components in the sale of wants and needs.
As everyone knows, in any machine, it is always the smallest and most overlooked components that will fail first. In that failure the whole machine is rendered useless. Look after and make the small components stronger and your machine will operate longer.

#18 >>Spending should never, ever, be constrained just because budget outlook looks bad. Spending decisions should be based on upon how much new money real economy needs.

That's what Zimbabwe thought and look where it got them. You can't spend what you don't have. When other countries will not accept your devalued currency, you can't buy anything !! When other countries stop lending you money because you are a bad risk, you will not have the money to buy anything.

This was the big nightmare facing the PIIGS before all that was sorted out.

Like most people I am alarmed at the escalating price of petrol, but like 15-20% of the population I also have to manage the price of oil for my central heating. I live in a rural village in Nottinghamshire where there is no gas and therefore I have no choice in my heating fuel, which has increased in price from 41pp litre last year to 61pp litre this year! Double whammy. Stella N.

Fuel prices are going to keep going up, that's a fact of life. Agricultural and industrial revolutions have come and gone, now is the time to invest in the digital revolution or go extinct.

90. At 06:21am on 23rd Mar 2011, EconomicsStudent wrote:When the banks write this debt off in their books, there is no 'write off' in an accounting sense because the the loan is a bank asset i.e. nothing to do with sales/income/profit and loss. The write off is a balance sheet transaction, perhaps against some kind of provision but again you have the same problem that a provision implies that, previously some kind of reduction in profit has been recognised, this can't be the case for bank loans though because as I've pointed out its all on the balance sheet.
---------------------------------------------------------------------------------------------------------------------------------------
Hang on a minute! I might not know much about banking, but I do know something about double entry book keeping, and this just cannot right.

Any business which makes a loan shows it as an asset in its balance sheet. That cannot make the writing off of the loan simply a balance sheet transaction, because the business has lost some money and that loss is recognised in the profit and loss account as a bad debt. A company which feels it is likely to get only some of its money back should bake a bad debt provision in the amount it estimates that it will lose. That sum is then recognised in the profit and loss account at the point the provision is made. Once the worth of the loan is finally established, the provision is adjusted, and the amount of that adjustment is then shown in the Profit and Loss account.

That must be the way it works in a bank as well as any other business- or is some clever person going to show me where the corresponding double entry to a bank's loan write down goes? I would certainly be interested .

To 90. At 06:21am on 23rd Mar 2011, EconomicsStudent

OK E.S.

My explanation of our current monetary system is this:
Once upon a time there was a king, land, people, work, and money (gold).
Everything was held fee simple absolute in possession. In short it was yours subject to allegiance to the king.

To enable commerce, a banking system was created to hold money and extend credit. The money held was backed by the gold.

But to enable commerce to expand and wars to be fought, more money was needed than there was gold. The banking system was permitted to create credit in excess of the amount of gold backing the credit notes (money), based on the belief that demand for reversion of money back to gold would not exceed a given percentage of the credit notes issued.

Fast forward:
Governments supplanted kings and government issued currency replaced gold.
The credit and debt system of recording creditors and debtors remained, along with the banking system extending credit in excess of the money (notes and coins) that backed the credit.

Fast forward:
The credit and debt system is transferred from being physically recorded on paper to being electronically recorded. It also grows in size substantially whereas money (notes and coins) shrinks. People accept ‘electronic credits’ as money, which are no longer backed by gold or even notes and coins.

The banking system now predominantly lends out electronic credits. Your stored up credits are lent to A.N. Other who buys a car, the vendor of which deposits those credits in a bank who then lends them out again etc. etc.

A bank does not create money from nothing, but the banking system, by virtue of lending out the same credits time and time again does. And every time it lends out someone’s credits it gets to charge interest.

It all worked swimmingly well when commerce was expanding and there were new lands to discover, towns to build etc. However the world is a finite place, but the creation of money as interesting bearing debt knows no limit, ultimately it represents a compound problem which we accept as inflation, the ever increasing quantity of money (electronic credits and debts).

And I caveat all of that with: I’m a self employed average working Joe and not an expert.

92. At 08:21am on 23rd Mar 2011, ishkandar wrote:
#18 >>Spending should never, ever, be constrained just because budget outlook looks bad. Spending decisions should be based on upon how much new money real economy needs.

That's what Zimbabwe thought and look where it got them. You can't spend what you don't have. When other countries will not accept your devalued currency, you can't buy anything !! When other countries stop lending you money because you are a bad risk, you will not have the money to buy anything.
..........

But thats what happened in Germany in the 1930s. So Hitler issued his own treasury currency and rebuilt the country in a matter of years. As long as the money is put towards creating real wealth, it wont lead to inflation.

"Hitler and the National Socialists, who came to power in 1933, thwarted the international banking cartel by issuing their own money. In this they took their cue from Abraham Lincoln, who funded the American Civil War with government-issued paper money called "Greenbacks." Hitler began his national credit program by devising a plan of public works. Projects earmarked for funding included flood control, repair of public buildings and private residences, and construction of new buildings, roads, bridges, canals, and port facilities. The projected cost of the various programs was fixed at one billion units of the national currency. One billion non-inflationary bills of exchange, called Labor Treasury Certificates, were then issued against this cost. Millions of people were put to work on these projects, and the workers were paid with the Treasury Certificates. This government-issued money wasn't backed by gold, but it was backed by something of real value. It was essentially a receipt for labor and materials delivered to the government. Hitler said, "for every mark that was issued we required the equivalent of a mark's worth of work done or goods produced." The workers then spent the Certificates on other goods and services, creating more jobs for more people.

Within two years, the unemployment problem had been solved and the country was back on its feet. It had a solid, stable currency, no debt, and no inflation, at a time when millions of people in the United States and other Western countries were still out of work and living on welfare. Germany even managed to restore foreign trade, although it was denied foreign credit and was faced with an economic boycott abroad. It did this by using a barter system: equipment and commodities were exchanged directly with other countries, circumventing the international banks. This system of direct exchange occurred without debt and without trade deficits. Germany's economic experiment, like Lincoln's, was short-lived; but it left some lasting monuments to its success, including the famous Autobahn, the world's first extensive superhighway.” [Unsuitable/Broken URL removed by Moderator]

91. At 08:16am on 23rd Mar 2011, sensiblegrannie wrote:
How is this all going pan out?
..........
Take a look at Egypt and Tunisia.

95. At 09:05am on 23rd Mar 2011, haufdeed

You are right. After looking at a few banks balance sheets. That is exactly what happens. I just could not believe it could apply to bank loans.
"Impairment of financial assets" its called and whats worse it appears to be tax deductible.

Think about it. Banks leverage their deposits. In other words they lend more than they have in customer desposits.
If these loans go bad they win with a tax refund.
It looks like a direct incentive to be wreckless at first glance

A good example is this set of accounts

http://www.lloydsbankinggroup.com/media/pdfs/investors/2010/2010_BOS_Results.pdf

Dempster
It looks like you may be right on the bad debt front. There may be some indirect effect on the banks ability to lend as a result of the default but the deposit stays out there. Back to the drawing board for me.

90. At 06:21am on 23rd Mar 2011, EconomicsStudent wrote:

Have you had a read of Steve Keens The Roving Cavaliers of Credit yet? It may answer some questions for you.

http://www.debtdeflation.com/blogs/2009/01/31/therovingcavaliersofcredit/