Tuesday, October 19, 2010
King warns of currency wars, hints at further easing
Posted by David Smith at 08:00 PM
Category: Thoughts and responses

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Mervyn King makes four big speeches a year and his latest, to the Black Country Chamber of Commerce, touched on the topic of the moment, currency wars.

Warning that the "Nice" decade will be followed by a "Sober" decade (savings, orderly budgets, and equitable rebalancing) - it will never catch on - the Bank of England governor calls for a "grand bargain" on the world economy:

"A bargain that recognises the benefits of compromise on the real path of economic adjustment in order to avoid the damaging consequences of a move towards protectionism. Exchange rates will have to be part of such a bargain, but they logically follow a higher level agreement on rebalancing and sustaining a high level of world demand."

The consequences of failure, he says, could be severe: "The need to act in the collective interest has yet to be recognised, and, unless it is, it will be only a matter of time before one or more countries resort to trade protectionism as the only domestic instrument to support a necessary rebalancing. That could, as it did in the 1930s, lead to a disastrous collapse in activity around the world. Every country would suffer ruinous consequences including our own."

Of more immediate interest to the markets will be King's broad hint that he favours further quantitative easing. The money supply is not growing, he says, and: "There is also a risk ... that once the temporary upward influences on inflation dissipate, the influence of spare capacity in the economy will push inflation below the target.

"Consistent with that possibility, a range of other indicators growth in broad money, pay, and the pressure of demand on supply, that together are likely to be a more reliable guide to inflationary pressure looking ahead all remain extremely subdued. So not only can monetary policy play a role in smoothing the rebalancing process, it needs to do so if the outlook for inflation is to remain in line with the 2% target in the medium term." The speech is here.