Sakina Babar, Research Associate with the National Assembly of Pakistan, Master’s student & General Intern at the IEA, argues NO
The Bank of England’s desire to raise interest rates is perplexing despite ample evidence that it is ill-advised. Supporters of this argue that it curtails inflation, but this reasoning lacks merit. When inflation is driven by cost-push factors – not consumer spending – the notion that higher interest rates will alleviate rising food and energy prices defies economic logic. By raising interest rates, the Monetary Committee is exacerbating the very problem they aim to solve.
One would expect the Bank of England to learn from past mistakes, but unfortunately, history seems to be repeating itself. The 2009 financial crisis provided a valuable lesson: sometimes, the best course of action is to let the market correct itself. Back then, the Bank wisely refrained from interfering and allowed natural market forces to restore equilibrium. It is disheartening to see today’s Monetary Committee disregarding this lesson, prolonging the time it takes for the economy to recover from the cost-push inflation they have contributed to.
The deliberate nature of the Monetary Committee’s actions raises valid concerns about their motives. It is challenging to comprehend why they persist in pursuing a strategy that harms the economy and places undue burdens on ordinary citizens. Are they operating in an alternative reality? Or are there hidden agendas at play? The British public deserves transparency and an explanation as to why their economic well-being seems to be of secondary importance.
The Bank of England’s decision to raise rates as a response to inflation is a flawed and detrimental approach. The persistent pursuit of this misguided strategy raises concerns about the committee’s motives and competency. It is imperative that alternative solutions be considered, and the public demands transparency and accountability from the very institution responsible for safeguarding our economic well-being. The time has come for a reevaluation of policies and a shift towards strategies that prioritise the welfare of the British public over self-serving agendas as the public deserves better from their monetary policymakers.
Hubert Kucharski, Editorial Intern at the IEA and Director at The Backseat Economist, argues YES
The claim that central banks should not raise interest rates when faced with supply-side shocks is a misguided contention. Yes, monetary policy cannot solve real shocks itself, however, when these shocks do manifest, it is imperative that monetary policy responds to second-round effects.
To understand why this is the case, one must look at the discourse surrounding inflation which has seen a new term – transitory inflation – enter its vernacular since the onset of the COVID-19 pandemic. Despite lacking a proper definition, the term has been used liberally to describe economic shocks.
What I mean by ‘proper’ is a definition which is testable by being linked to some measurable condition – expectations.
The peak impact of monetary policy occurs with a lag, meaning real shocks that are likely to be over quickly do not require a response from monetary policy. Instead, the textbook response to these fluctuations would be to look through them and target inflation in the medium term, rest assured that nominal expectations would remain anchored to the target. If you are not assured of anchored inflation expectations, then you need to act not to offset the supply shock itself (you can’t), but to prevent nominal second-round effects. Thus, where transitory inflation describes anchored expectations, the inflation we see today is a product of second-round effects.
Unfortunately, because central bankers blamed inflation on the supply-side shock that manifested from the Russian war in Ukraine, policymakers were too slow on the brakes. Because of this incompetency, we are paying the price of high and sticky inflation, which is only just starting to fall because of the bank’s latest dose of kill-or-cure interest rate hikes.
As such, Sakina’s point only stands as half true at best because central bankers were too slow to act – not because monetary policy is useless when responding to real shocks.
One must also consider QE. Here, I agree with Sakina, the Bank should certainly have its motives and competency questioned. The overzealous money printing which we have seen during COVID has come back to bite. Thus, the manifestation of such huge policy errors shows that we must fix the group-think culture which plagues the Bank of England.
The important lesson here though is that for monetary policy to work effectively, central bankers must identify the difference between transitory and not-so-transitory inflation. The irresponsible use of new terminology only obfuscates the true cause of economic shocks and renders us vulnerable to repeating the mistakes of our recent past.