Monetary policy reaches sell-by date for managing the economy

Economic growth

SHARE THIS STORY

US GDP Feb17

Monetary policy used to be the main focus for running the economy.  If demand and inflation rose too quickly, then interest rates would be raised to cool things down.  When demand and inflation slowed, interest rates would be reduced to encourage “pent-up demand” to return.

After the start of the Financial Crisis, central banks promised that lower interest rates and money-printing would have the same impact. They were sure that reducing interest rates to near-zero levels would create vast amounts of “pent-up demand”, and get the economy moving again.  But as the chart shows for US GDP, they were wrong:

□  It shows the rolling 10-year average for US GDP since 1950, to highlight longer-term trends
□  It confirms the stability seen between 1983 – 2007 during the BabyBoomer-led economic SuperCycle
□  The economy suffered just 16 months of recession in 25 years, as monetary policy balanced supply and demand
□  But the trend has been steadily downwards since 2008, despite the record levels of stimulus

The clear conclusion is that monetary policy is no longer effective for managing the economy.

Encouragingly, the UK Parliament’s Treasury Committee has now launched a formal Inquiry to investigate ‘The Effectiveness and impact of post-2008 UK monetary policy‘.  We have therefore taken the opportunity to submit our evidence, showing that demographics, not monetary policy, is now key to economic performance.  We argue that:

 It was clearly important until 2000, when the great majority of people were in the Wealth Creator 25 – 54 age group (which dominates consumption and therefore drives GDP growth). But its impact is now declining year by year as more and more BabyBoomers move into the 55+ age group – when incomes and spending begin to decline quite rapidly
 Friedman’s analysis of the effectiveness of monetary policy, when he argued that “inflation is always and everywhere a monetary phenomenon”, is therefore no longer valid. Modigliani’s “Life Cycle theory of consumption” is similarly out of date
 The issue is simply that both Friedman and Modigliani were working in an environment which assumed that people were born, educated, worked – and then died soon after reaching pension age. In these circumstance, their theories were perfectly valid and extremely useful for modelling the economy
 Today, however, the rapid increase in life expectancy, together with the collapse of Western fertility rates below replacement level, means that a paradigm shift has taken place.  People are now born, educated, work – and then continue to live for another 20 years after retirement, before dying
 The essential issue is that “you can’t print babies”. Monetary policy cannot solve the demographic challenges that now face the UK (and global) economy
 We therefore hope that the Committee will conclude that monetary policy should no longer be regarded as the major mechanism for sustaining UK growth

Please click here if you would like to read the evidence in detail.

PREVIOUS POST

Force majeures hit new record high as safety loses out to profits

23/02/2017

Just when you think something really can’t get any worse, it does.  Sadly...

Learn more
NEXT POST

America hits "peak gasoline" moment as demand patterns change

02/03/2017

OPEC has a long wait ahead, if it hopes that US drivers will ever go back to Sup...

Learn more
More posts
Pandemic redraws the map
11/10/2020

  Companies have entered a new landscape where the coronavirus has accelerated major paradigm s...

Read
What will happen if President Trump loses the election?
04/10/2020

I spent from September 2015 onwards, during the last US Presidential election, trying to explain why...

Read
Covid fears risk a Great Depression and major social unrest
27/09/2020

Governments spent most of February/March ignoring my warnings here on the dangers posed by the Covid...

Read
The state of the global economy in 2020
13/09/2020

Last Wednesday, I gave the opening presentation for the ICIS PET Conference and looked at whether th...

Read
Reality dawns for business as No Deal Brexit approaches
06/09/2020

I warned before the June 2016 Brexit referendum that Brexit was all about politics, and Boris Johnso...

Read
Global chemical industry – key trends for success in today’s New Normal
02/08/2020

The chemical industry is the best leading indicator for the global economy. On Friday, I had the pri...

Read
Oil prices signal potential end to the V-shaped recovery myth
26/07/2020

Oil prices have moved into another ‘flag shape’ – which previously provided critic...

Read
Bankruptcies now the key risk as hopes for V-shaped recovery disappear
19/07/2020

Governments, financial markets and central banks all originally assumed the Covid-19 pandemic would ...

Read

Market Intelligence

ICIS provides market intelligence that help businesses in the energy, petrochemical and fertilizer industries.

Learn more

Analytics

Across the globe, ICIS consultants provide detailed analysis and forecasting for the petrochemical, energy and fertilizer markets.

Learn more

Specialist Services

Find out more about how our specialist consulting services, events, conferences and training courses can help your teams.

Learn more

ICIS Insight

From our news service to our thought-leadership content, ICIS experts bring you the latest news and insight, when you need it.

Learn more