| Playing for Time |
14 July 2003
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Bank of England Cuts Rates
The Bank of England cut its interest rate to the lowest level Britain has seen in 48 years. After a 0.25% cut to 3.25%, the rate still seems outrageously high, but part of that is the price Britons pay to stay out of the euro and some of it is the fact that the UK's economy hasn't hit the doldrums in quite the way Germany or Japan's have. The fact that leading "hawk" Mervyn King chaired his first meeting as Governor of the Bank of England when this was announced is the key to understanding future moves by the BOE.
That Mr. King has allowed the rate reduction shows that his plan is to keep Britain afloat domestically while waiting for Europe and the rest of the world to recover. This is the only realistic policy for the country. However, critics have complained that there is a housing bubble that the rate cut is inflating. When it bursts, as bubbles always do, the rate cut will only make things worse.
The people of the UK, though, have a cultural propensity to keep much of their money in bricks and mortar, and the debt that they have taken on makes them more highly leveraged (geared) than previously. What the critics miss is that higher levels of debt do not pose a problem if incomes rise accordingly. The rate cut is premised on the idea that keeping people in jobs until the continentals see demand rise will make this cut acceptable.
It is a gamble, to be sure, but one that must be taken. Mr. King appears not to be much for high stakes gambling, as the 25 basis point cut shows. Like Mr. Greenspan of a few years ago, there will be many cuts ahead if he insists on playing it timid. Unlike Mr. Greenspan, though, Mr. King is only playing for time. He is not in charge of the world's economic engine. He just has to keep Britain afloat long enough for global demand to take over, so his is a policy of many small doses rather than a big cure-all.