Monday, 16 November 2009

Pumping Money into the Economy

Should the Bank of England be pumping money into ‘banks’, ‘bubbles’ or the ‘real economy’? The only choice we can rule out for sure is ‘bubble’. The choice that Alistair Darling has taken on behalf of the government is to pump money into the banks in the hope that it will be channelled into the real economy. That is not what is happening. The money is going into the financial system and appearing as a surge on the stock market. This is exactly where we do not want tax-payers money to end up.

There is a lot of talk about persuading banks to take action to support the real economy. They are being urged to be more prudent and to lend more to small businesses (not easily compatible aims). There are also proposals to cap banker’s bonuses but this may be more political posturing than trying to fix the financial system. When money flows into banks it enters a system which is the same as it was prior to the crisis but with some of the more extreme elements neutered (for now). It is not banks that need the money, it is the real economy.

The central bank can make new money at the flick of a switch. Quantitative easing is a very easy option. It is hoped that this then helps the economy. This is lazy policy making; like the government’s action to reduce VAT early in the crisis. The real challenge is boosting the real economy and getting people back to work. It will not be easy.

One way would be channel government money to the insulation of all the housing stock in the UK, starting with that in public ownership. The money will go direct to employing people from the hard-hit construction industry and deliver long-term reductions in carbon emissions as well as improve security of energy supply for the country. This would pump stimulus directly into the real economy. The effects would ripple out, allowing people to get off the dole, back to work and pay off their mortgage arrears. This is not an easy option, to implement quickly, but governments should not be in power looking for easy options. This could be up and running now if our leaders had more vision and more drive.

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