HIGHLIGHTS-Reuters interview with BoE chief economist Spencer Dale

Following our highlights of Reuters’ interview with Dale, which was conducted at the BoE on Tuesday, Oct. 10.>Q. Is Britain in the worst economic situation since the Great Depression in the 1930s?A. “I can’t think of any obvious period in history where we’ve seen such an acute and prolonged period of financial turmoil. But I think what’s very different now to the Great Depression is what’s happening in the real economy.”“I think that in part reflects the nature of the policy response now compared to the 1930s.”“However, I do think what’s going on in financial markets is having an impact on our economy. You can see considerable stress within financial markets, we’ve seen large falls in certain risky asset prices, particularly equity prices.”“We’ve seen growing pressures around banks — in particular the health of the European banking system — and that’s affected the ability of our own banking system to fund itself.”Q. Was the decision to launch QE last week a pre-emptive one?A. “I think the policy committee was responding to the deteriorating economic outlook and I think that deterioration largely reflects factors that are happening abroad, which are outside our shores. There are three or four factors going on in the rest of the world, which are all acting together.”First, we’ve seen a slowing in growth and demand. We saw that slowing happening during the summer and thought it was likely to be largely temporary … but that slowing now looks more persistent.”“We’ve seen increased concerns about levels of sovereign debt, particularly obviously in the euro area. That’s then fuelled anxieties within financial markets, particularly with concerns about the European banking system.”And finally, there’s a reduced level of confidence that the authorities in those other countries have the ability to act quickly and decisively.”“(This) is why the economy has slowed … through the third quarter, and I expect it to carry on slowing in the fourth quarter, and it is that we have responded to when we took the policy decision last week.”Q. Did you vote for more QE yourself?A. “My decision and the decisions of all individual members of the Committee won’t be known until the minutes are out next week. I was speaking here as the chief economist of the Bank, explaining the reasons why the Committee made the decision it did.”Q. Is this round of QE likely to be as effective as the first one, pound for pound?A. “It’s hard to know with any precision exactly what impact it had last time and exactly what impact it has this time. I think there are some recent developments, some of the recent developments we’ve seen in our economy do actually add to the impact of QE, and I think I would highlight two.”“First, a key feature of what we’ve seen in recent months is a flight to safety. People have moved away from risky assets into safe assets in the context of the UK, in terms of how we’ve seen falling (government) bond yields.”What QE does is help to work in the opposite direction. It goes along and encourages institutional investors to move out of gilts, as the bank purchases those gilts and drives yields down, and encourages them to move back into riskier assets.”“The second one is the way QE to a very large extent works by going round the banking system, so we go out into the economy and we go to institutional investors, insurance companies and pension funds and … say we’re going to buy 75 billion pounds of gilts off of you and … it’s then up to those institutional investors what they do with that cash.”Q. How will you judge the success of QE?A. “The ultimate judge of the success of QE is whether we hit the inflation target. So in a couple of year’s time, whether we’ve managed to support demand and we’ve hit the inflation target. That’s what we’re doing this for. I will keep on emphasising this.”Q. The August Inflation Report pointed to inflation of just below 2 percent at the two-year horizon. Without QE, would it be significantly lower?A. “We obviously start with inflation at 4.5 percent. I think there’s a very good chance that when the inflation numbers next week are published for September, CPI inflation will be above 5 percent.”“There’s a strong onus on the Committee to explain why loosening monetary policy when inflation is so far above target is the right thing to do. And it’s because … we think a significant part of the reason why inflation is so high at the moment relates to these temporary factors that we’ve discussed many times in the past.”So I’d expect to see a very substantial fall-off in inflation at the beginning of next year as suddenly VAT effects and oil prices start to drop out, and for inflation to continue to decline through that year.”Q. Why did you not wait until their was more clarity about euro zone leaders’ response to the Greek debt crisis before starting QE?A. “The decision we made … was we felt we needed to inject 75 billion pounds into the economy in order to hit the inflation target.”Does that mean it will be the right decision for every single month, whatever happens? No. And we’ve made it very clear in our statement, each and every month we’ll review that policy decision and if we want to increase the scale of asset purchases or reduce the scale of asset purchases, that’s what we’ll do.”The fact just due to the operational logistics that you can only purchase 75 billion over four months doesn’t mean we’re on hold for four months. We’ll review our decision each and every month.”Q. Is there business demand for more credit? Are we in a liquidity trap?A. “I don’t think we’re in a liquidity trap.”“But I think you’re quite right, an important aspect of the impact on demand at the moment is people’s general levels of uncertainty and concerns about the future.”There’s a limit to what we can do on the committee about that, because many of these things are coming from the rest of the world, but I think what we showed is that we were willing to act quickly and decisively in order to support demand in our economy. And hopefully that will help to add to some extent to people’s confidence about the future.”Q. What do you think of George Osborne’s plans related to credit easing?A. “The chancellor’s suggestion that he thinks the Treasury should explore the possibility of improving the flow of credit to the SME sector does seem very welcome. The Treasury are in the lead on this work and I think it is appropriate that they are in the lead. The type of schemes that they can think about have the property of allocating credit to particular sectors of the economy. They also have the property that they take on credit risk.”Q. If confidence doesn’t pick up, is Britain at risk of a Japanese-style ‘lost decade’?A. “Clearly demand growth in this recovery has been less strong than we ideally would have liked. Some of those features can be related back to the financial crisis and the constraints we see on the banking sector. But some of them relate to other factors that are going on in our economy.”A big feature of the weakness of growth this time around isn’t something related to