Mervyn King must turn on printing presses now

Russell Lynch
7 Sep 2010

The economic alarm bells should be ringing loud and clear at the Bank of England this week.

If the trio of depressing surveys from the Chartered Institute of Purchasing and Supply is anything to go by, the case for rate-setters to begin cranking up the money-printing presses again sooner rather than later is building rapidly.

A slowdown in construction and manufacturing was bad enough but both were capped by results from the services sector — which showed growth at its lowest level for 16 months.

Two salient facts about the services sector in the UK: official figures say it accounts for around three-quarters of the country's entire output and provides more than 25 million jobs.

You don't need a collection of doctorates to acknowledge that if we're seeing signs of a slowdown here, then things could be looking tricky.

Admittedly, the Bank has to consider a range of economic data and the institute's surveys are not infallible.

They overstated the performance of the UK in the third quarter of 2009 and were one of the main reasons pretty much everyone who makes his or her living from commenting on the economy was left with egg on the face when an exit from recession was confidently predicted. But it has been a regular refrain throughout the present crisis that there are fewer risks of doing too much than of doing too little. Across the Atlantic, the Federal Reserve added more stimulus in August as the American recovery slowed.

Although inflation is at the moment well above the Monetary Policy Committee's 2% target at 3.1% and is likely to stay there until the end of 2011 at least, the Bank of England's own forecasts suggest it will undershoot the target in two years' time with rates at record lows and £200 billion of quantitative easing still in the system.

The Bank's Governor Mervyn King is in uncharted waters with quantitative easing and the MPC's forecasting has come under scrutiny of late, but this forecast in itself surely adds weight to the argument for more action to aid the economy.

Yet MPC inflation hawk Andrew Sentance is almost certain to vote again for an interest-rate rise for the fourth month in a row. He believes the UK is now in a fit enough state to cope with the gradual withdrawal of emergency measures while maintaining the Bank's credibility on keeping prices under control.

But other more doveish voices on the committee are now making themselves heard — such as new boy Martin Weale, who has said it would be “foolish” to rule out the risk of a double-dip.

That stellar second-quarter growth of 1.2% may be the UK's best performance since 2001 but it also came against a snow-blighted opening to this year and to all intents and purposes is now history where policy-making is concerned.

The more recent data point to growth of less than half that pace between July and September, according to CIPS. Construction orders have plunged 14% in the second quarter and the industry is forecasting falling output next year.

Outside Planet Sentance, house prices fell 0.9% in August — their second consecutive monthly fall since the depths of the recession, and credit conditions remain tight. Money growth — which quantitative easing is aimed at tackling — is slowing.

High Street spending has held up so far and may even increase later this year as consumers attempt to beat January's VAT hike to 20% but after that it is likely to fall back dramatically.

Annual wage growth has slowed, and — lest we forget — the most brutal public spending cuts in a generation are due to kick in next year. So far it's been a phoney war on cuts, with a lot more tough-sounding talk than actual slashing. Next month's spending review will set out the casualties line by line and next year the pain really kicks in —translating into thousands of jobs lost, spending power eroded by the pay freeze, and contracts vanishing from private sector workloads.

With these grim prospects why shouldn't the Bank take preventative action now?

Less than two years ago — as rates were held at 5% while the economy slipped into recession — former MPC member David Blanchflower attacked the committee for not being “sufficiently forward-looking” and pressed for a different approach.

His words are worth repeating: “Changes in monetary policy only affect the real economy with a substantial lag. Hence, monetary policy makers must take a medium-term view concerning the forces hitting the UK economy and set policy accordingly … It is not sufficient to consider the data month-by-month until it emerges that the UK is in recession.”

Are we in danger of repeating the same mistakes as 2008 by failing to act now?