Bank moves to 'print money' in bid to revitalise economy

Mervyn King. Photo / AP

The Bank of England announced radical plans to inject 75 billion ($211.5 billion) into the banking system by effectively creating money as it cut official interest rates by half a percentage point to a record low of 0.5 per cent yesterday.

The British central bank's decision to drop rates - the sixth cut in as many months to the lowest level in its 315-year history - was overshadowed by its move to begin so-called quantitative easing, more colloquially known as "printing money".

But instead of making new banknotes, the central bank will buy 75 billion of assets, such as government securities and corporate bonds, over three months and pay for them by crediting banks' reserve accounts - effectively creating new money.

It is the first time quantitative easing has been used in Britain, underscoring the extent of the recession engulfing the country.

The process is designed to encourage banks to lend in the wider economy, instead of just hoarding the extra funds, which would in turn spur consumer spending and economic activity.

"In these highly uncertain times, there are merits to stimulating the economy through a variety of different channels," Bank of England governor Mervyn King said in a letter to Treasury chief Alistair Darling seeking permission for the measure.

Quantitative easing was implemented in Japan at the beginning of the decade, but its success was questionable after much of the money was hoarded by banks. Economists also argued that the policy had been implemented too late in the downturn.

The opposition Conservative Party's economic spokesman, George Osborne, said the British measure was a "leap in the dark" and " an admission of failure".

The Government has authorised a maximum of 150 billion for the quantitative easing programme. The Bank of England said it would adjust "the scale of purchases as appropriate" after monitoring the programme's effectiveness at future meetings.

Hetal Mehta, senior economic adviser to the Ernst & Young ITEM Club economic consultancy, said the bank had chosen a good starting point in its first attempt to pump money into the system.

The British Retail Consortium welcomed the move but also sounded a warning about the potential inflationary effects of increasing the money supply.

Outside the Bank of England in central London, a small group of protesters waved placards and banners demanding better rates for savers, who have found their savings whittled away by the successive cuts that have brought interest rates down from 5.25 per cent a year ago.

But there has been little headroom left for the bank with rates so low. The nine-member monetary policy committee said members had voted to move to quantitative easing after judging that the 0.5 percentage point cut in rates would still leave a "substantial risk" of undershooting the bank's 2 per cent inflation target in the medium term.

"Accordingly, the committee also resolved to undertake further monetary actions, with the aim of boosting the supply of money and credit and thus raising the rate of growth of nominal spending to a level consistent with meeting the inflation target in the medium term," the bank said.

The bank said it expected inflation to fall below the target by the second half of the year after dropping to 3 per cent in January.

Britain fell into recession last year for the first time in nearly two decades.

- AP