group of independent economists that shadow the Bank of England’s Monetary Policy Committee (MPC) have called for interest rates to not increase further. This comes as the Bank of England is expected to put up the Bank Rate from 5 per cent to 5.25 per cent today (Thursday, 3 August).
The Institute of Economic Affairs’ Shadow Monetary Policy Committee (SMPC) have said that further rate increases could harm the UK economy. A majority of the SMPC also voted to pause Quantitative Tightening (QT) – a contractionary monetary policy that aims to decrease the money supply and slow the economy. This marks a shift from the SMPC’s May meeting when only two members voted to suspend QT entirely.
The one dissenting member argued that a further hike of 50 basis points was necessary to prevent inflation from “becoming embedded in the economy”. But the majority assessed that risk as low because of weak growth, a weakening labour market and the easing of supply-side pressures.
One member, economist Patrick Minford (Cardiff Business School, Cardiff University), said that getting inflation down from very high levels will be a long and slow process; and overreacting and over-tightening could damage the economy and spark a financial crisis. Another member, Juan Castañeda (Vinson Centre, University of Buckingham), highlighted the contracting money supply over recent months that will have a strong disinflationary pressure.
The SMPC was among the first groups to warn that loose monetary policy during the pandemic necessitated higher interest rates in July 2021. However, the Committee now says further monetary tightening should be paused until the full impact of recent rate rises and quantitative tightening becomes clear. The members, nevertheless, cautioned against an interest rate cut on the basis that the Bank of England has lost too much credibility in tackling inflation to do a volte-face.
SMPC members highlighted the reduction in lending to companies and financial institutions and the risk of a “payment shock” as 1.6 million fixed-rate mortgage deals are set to end by mid-2024 – resulting in some reduction in household spending. They also noted that headline inflation rates are already beginning to fall across developed economies.
Trevor Williams, Chair of the Shadow Monetary Policy Committee and former chief economist at Lloyds Bank, said:
”It will take some time for previous rate rises and falling global commodity prices to feed into lower inflation. But, in the meantime, further rate rises by the Bank of England are unnecessary and could do some economic damage without lowering inflation any faster.
“The UK economy is on the precipice of a sharper slowdown. There has already been a contraction in the money supply, with less liquidly available for loans, lower house price inflation, and slowing economic activity, as shown in the sharp fall in the Purchasing Managers’ Index (PMI) for manufacturing.”
