Has Bank Of England Scored An ‘Own Goal’?

by Dr. Ros Altmann

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Saga Research Highlights Damaging Impact Of Monetary Policy

Cut In Spending Power Of Over 50s May Have Caused £25 Billion Fall In Gdp

A report published today by the Saga Foundation, raises serious concerns about negative impacts of Bank of England monetary policy.

The research indicates that the “toxic combination” of ultra-low interest rates, quantitative easing (QE), and overshooting inflation has slashed the spending power of 21 million older citizens, helping push the UK into recession.

This analysis challenges the conclusions of a Bank of England report last month, which claimed QE had boosted the wealth of UK households by around £600billion and led to increased spending.

Today’s report, compiled for Saga by experts from the Centre for Economics and Business Research (CEBR), reveals that Britain’s over 50s suffered a 9% drop in real incomes between Q1 2008 and Q2 2012. This led them to reduce their spending, sucking £24.7billion out of the economy, equivalent to a 1.6% fall in GDP.

Saga’s regular quarterly surveys since 2010 show that the over 50s have been cutting back on a wide range of goods and services – even essentials – as they reassess their financial situation in response to the rising cost of living. Around half of older households have reported cutting back on clothes, shopping, entertainment and three quarters on hospitality and food.

The CEBR report, released to coincide with the latest MPC meeting, is part of the Saga Thought Leadership series and aims to inform and stimulate debate amongst policymakers and commentators.

In response to the findings, Saga suggests a four-point plan to kick-start growth and boost employment more effectively than current policies and hopes that George Osborne will consider these for urgent action.

Dr Ros Altmann, Director General of Saga said:

“The Bank of England has scored an unexpected ‘own goal’ with the effect of its policies on the over 50s. This age group represents more than half of UK households and contributes nearly half of all domestic consumption but the toxic combination of rock-bottom interest rates, spiralling inflation and QE money-printing has put a big squeeze on their incomes, forcing many to make cutbacks.

“This change in spending habits has not just hit their living standards it has also sucked almost £25billion out of the economy, reduced the Treasury’s tax take and may have inadvertently helped tip us into recession.”

The CEBR report also highlights the catastrophic drop in income falling gilt yields have had on pension savers and the hundreds of thousands of people buying annuities each year.

Lower gilt yields following QE mean:

• Annual income from a £100,000 annuity for a 65-year-old man has fallen nearly 20% in three years,
• The value of a £100,000 capped drawdown policy for a 65-year-old man has fallen 33% due to the combination of QE and Treasury rule changes.

“With nearly a million people due to buy annuities over the next two years, as the number of baby boomers reaching retirement peaks, current monetary policy is cutting many pensioners’ incomes – permanently,” says Dr Altmann.

Dr Altmann suggests that policymakers ignore these facts at their peril and that they should be acting now to find alternative policies to stimulate economic activity.

She concludes: “We need the authorities to look at more effective ways of reinvigorating the economy. If they want to generate growth and employment, they should be considering a plan without the damaging side-effects of QE.”

Prof Douglas McWilliams, Chief Executive of CEBR and Gresham Professor of Commerce said: “While QE may have supported the UK economy during the financial crisis by preventing deflation, it is not a measure without cost. By pushing up prices, the inflationary impact of QE has placed downward pressure on real incomes which has a particularly severe effect on those with fixed incomes and this will have reduced household consumption.

“Those pensioners hit hardest are those who have had to take out an annuity in the past four years, who will be retiring on much lower incomes than they might have expected, after working hard to pay for their retirement. Also pensioners who rely on interest income will had their income reduced in the same way.

“The effects of these factors are not confined of course just to those pensioners directly affected because the impact of their spending spreads out through the economy through those who supply them with goods and services.”

As a result of its research Saga believes there are more effective policies that should be considered. It recommends:

• Temporary tax breaks for capital spending to encourage companies to bring forward investment plans currently on ice.
• Introducing meaningful incentives for house building, for example, building aspirational housing suitable for older generations downsizing, which would both help the property market and stimulate growth
• Harnessing the power of pension fund assets to bypass the banks and invest in infrastructure and lend directly to small business, with a Government underpin to mitigate some of the risk. So far, all the credit and lending schemes have relied on banks to pass on lower lending rates. However, with an impaired banking system, the usual mechanisms are not working. Facilitating more borrowing is not just about lower interest rates. Over-cautious, weakened banks have significantly increased fees and tightened lending conditions which has left many small or medium firms unable to borrow.
• The Bank of England must stop buying more gilts, lavishing billions of pounds on a strategy which undermines the UK’s pension system and will be painful to unwind.

ENDS
Dr. Ros Altmann