World on brink of disaster: Bank of England boss
James Kirkup, London Telegraph (8/10/2011 )

Sir Mervyn King 8/10/11

Mervyn King
Governor of the Bank of England

THE world is facing the worst financial crisis since at least the 1930s, "if not ever", according to the governor of the Bank of England.

Sir Mervyn King was speaking after the decision by the central bank's Monetary Policy Committee to put £75 billion ($A119 billion) of newly created money into the economy in a desperate effort to stave off a new credit crisis and a recession in Britain.

Economists said the bank's decision to resume its quantitative easing (QE), or asset purchase program, showed it was increasingly fearful for the economy, and predicted more such moves ahead.

Sir Mervyn said the bank had been driven by growing signs of a global economic disaster.

"This is the most serious financial crisis we've seen, at least since the 1930s, if not ever. We're having to deal with very unusual circumstances, but [will] act calmly and to do the right thing."

Announcing its decision, the bank said that the euro-zone debt crisis was creating "severe strains in bank funding markets and financial markets". The Monetary Policy Committee (MPC) also said that the inflation-driven "squeeze on households' real incomes" and the government's program of spending cuts would "continue to weigh on domestic spending" for some time to come. The "deterioration in the outlook" meant more QE was justified, the bank said.

Financial experts said the MPC's move would be a "Titanic" disaster for pensioners, savers and workers approaching retirement. Sir Mervyn suggested that was a price worth paying to save the economy from recession.

Under QE, the central bank electronically creates new money which it then uses to buy assets such as government bonds, or gilts, from banks. In theory, the banks then use the cash they gain to increase their lending to businesses and individuals.

By increasing the demand for gilts, QE pushes down the interest rate yields paid to holders of these and other bonds. Critics of the policy say it pushes up inflation and drives down the pound.

The National Association of Pension Funds called for urgent talks with ministers to deal with the negative impact of lower gilt yields on pension funds. NAPF chief executive Joanne Segars said QE made it more expensive for employers to provide pensions and would weaken the funding of schemes as their deficits increased. "All this will put more pressure on employers at a time when they are facing a bleak economic situation," she said.

Ros Altman, of Saga Group, said the latest round of QE was "a Titanic disaster" that would increase pensioner poverty. As well as fuelling inflation, she said, falling bond yields would make annuities more expensive, "giving new retirees much less pension income for their money and leaving them permanently poorer in retirement".

The MPC also voted to leave the bank rate at its historic low of 0.5 per cent, another decision that hurts savers. Protesters outside the bank's headquarters smashed a giant piggy bank to symbolise the situation of pensioners and others forced to raid savings to keep up with the rising cost of living.

Asked about the plight of savers, Sir Mervyn said it was more important to support the wider economy than to support them. He suggested that savers would not be helped by deliberately pushing the British economy into recession. The decision was the first move on QE since 2009, during the global credit crisis, when the bank injected £200 billion into the economy.

Some analysts believe that this round of QE could be less effective than the previous one, forcing the bank to create even more money this time.

Michael Saunders of Citigroup forecast that there could be as much as £225 billion more QE by next year.

"I think they will do lots more QE," he said. "It's both that the economy is weak and also that the MPC's view is that QE is not a very powerful tool; or rather, it takes a large amount of QE to have much effect on the economy."

The bank is supposed to keep inflation near a target of 2%. Inflation now stands at 4.5%, and the bank admitted it was likely to hit 5% as soon as this month. The bank's own research shows that as well as stimulating the economy, QE pushes up prices.

The governor insisted that the MPC's decisions had been the correct response to events.

"The world economy has slowed, America has slowed, China has slowed and, of course, particularly the European economy has slowed," he said. "The world has changed and so has the right policy response."