Thursday, March 05, 2009
Another combined one hundred basis points were lopped off of short-term lending rates in Europe this morning as shown in the graphic below from Reuters.
Once again, savers are being punished (though nearly everyone thinks the West should save more) and another page is turned in the story of how the worst financial crisis since the Great Depression, caused by too much easy money, is being rectified with even more easy money.
The British central bank went so far as to announce that the British government had authorized the printing department to whip up another £150 billion for the cause.
Regardless of how this all works out, the historians are going to have a field day when looking at charts like the one above.
They'll look at it and say, "Why, I've never seen anything quite like that"
The ECB (European Central Bank) cut its key interest rate from 2.0 percent to 1.5 percent, the lowest since the euro was launched more than ten years ago, and ECB president Jean-Claude Trichet slashed forecasts for economic growth in the eurozone to somewhere between minus 2.2 percent and minus 3.2 percent.
There were no new measures announced to spur an economic recovery.
In contrast, the BOE (Bank of England) cut short term lending rates to a new multi-century low, from 1.0 percent to 0.5 percent, down from a rate of 5.75 percent just 18 months ago. The bank also promised to print up £75 billion to pump into the financial system, vowing to create another £75 billion in the months ahead if the first £75 billion doesn't do the trick.
The Telegraph reports on these new measures being implemented to rescue the economy.
The Bank, which has cut the cost of money dramatically since the collapse of Lehman Brothers in September intensified the financial crisis, is now moving beyond making money cheaper. By adding new money to the economy at a time when interest rates are hovering above zero, Mr King will be hoping that money is lent and helps ease the credit drought suffered by consumers and businesses alike. This handy video was supplied to explain what exactly quantitative easing is, how it works, and how the world may or may not be better off as a result.
“Savers lose out again as the Bank of England opts to cut rates and inject more adrenaline into the ailing economy," said Stuart Porteous, Head of RBS Group Economics. "The Bank takes UK policy into uncharted territory - printing money."
The Bank will target purchases of government debt, or gilts, because they are among the most liquid assets around and owned by a range of investors including banks and institutional investors. The hope will be that the money received for the gilts will be lent out, invested in other assets and driven around an economy starved of credit.
In this report also at the Telegraph, Edmund Conway provides a few more details.
Why do this? Because money growth is directly tied to both inflation and GDP growth, and it has hit the buffers recently. By increasing the amount of cash in the system the Bank intends to raise one or both of these two.Yes, we're all hoping for a good contagion.
Will it work? That is the big unanswerable question - though these measures give the Bank a good chance of averting the deflation trap the US suffered in the 1930s. The objective, as I've said, is to increase the amount of cash both in peoples' and companies' bank accounts and pockets. However, since it has stopped short of a literal helicopter drop of cash onto families' homes, the Bank is doing this slightly indirectly. It buys assets from the private sector by creating money (with the press of a button rather than a printing press - this stuff will be done electronically); this in turn increases the amount of cash in banks' reserves.
According to Simon Ward of New Star, whose blog has a handy primer on the subject:
"This can boost the economy in two ways. First, if the central bank buys from individuals or firms, the money in their accounts with commercial banks increases, matching the rise in the banks' reserves with the central bank. This increase in the broad money supply then encourages higher spending.
"Secondly, the higher level of reserves may encourage commercial banks to lend more. The higher lending may be associated with a rise in spending and results in a further expansion of the broad money supply, with additional stimulative effects."
So, we hope that this money, funnelled into a relatively small part of the financial system, will become contagious, persuading banks to lend more and people to spend more, thus averting deflation and depression.