Evaluation of the 2011 Policy of the Bank of England Essay

Evaluation of the 2011 Policy of the Bank of England - Essay Example This essay discusses that in 2011, the Bank of England maintained the interest rate low even when the inflation rate was higher than the targeted level. Is this policy sound? The â€Å"monetary policy objective is to deliver price stability --- low inflation --- and, subject to that, support the Government’s economic objectives including those for growth and employment†. Low inflation itself is not defined but â€Å"price stability is defined by the Government inflation target of 2%†. Maintaining t a 2% inflation rate is the continuing target of the United Kingdom through the Bank of England which is the central bank of the UK. Yet, as indicated by Table 1, inflation was 2.1% in 2005, 2.33% in 2006, 2.32% in 2007, 3.6% in 2008, 2.17% in 2009, 3.29% in 2010, and 0.5% in 2011. If the inflation rate â€Å"target is missed by more than 1 percentage point on either side ---i.e. if the annual rate of CPI inflation is more than 3% or less than 1%---the Governor of the Bank must write an open letter to the Chancellor explaining the reasons why inflation has increased or fallen to such an extent and what the Bank proposes to do to ensure inflation comes back to the target†. During the period 2005-11, annual average bank interest rate decreased from 4.65% to 0.5% when the usually logical action to take is to increase the interest rate given the overall trend of an increasing inflation rate. If she wants to, the Bank of England can influence bank interest rates through several policy instruments such as her control over government. Over the period 2005-11 or 7 years, inflation rate was above 2% and, yet, interest rate has been made extremely low. Inflation has been on the uptrend since 2005 but interest rates were on the downtrend beginning the same year. The United States sub-prime crisis that became the trigger for the ongoing world crisis started to express itself sometime 2007. In the United Kingdom, the gross domestic product dropped in 20 09 and recovered its 2008 level in 2010 but the GDP per capita figures probably continued to decrease. UK inflation, on the other hand, has been increasing since 2005. This indicates that the ongoing UK inflation is independent from the United States crisis and its aftershocks. At the same time, this also implies that it may be possible to address the two problems separately or that specific measures are needed to address UK inflation independent from the measures needed to address the fallouts on the UK from the U.S. sub-prime crisis. Nominal GDP or GDP in current values decreased in 2009 despite an inflation of 2.17% during the year. Needless to say, the impact of this double hit of a decrease in the nominal value of the GDP combined with inflation is that the quality of life deteriorated for at least several households in the United Kingdom. Chart 1. Quarterly GDP change, 1955 to 2011 Source: Roger, et al. 2012 Using Chart 2 for looking at the period 2000-2011 within a longer ter m horizon or between 1955 to 2011, it is to see that 2000-2011 is a period wherein GDP change on a per quarter basis is lower compared to the GDP change on a per quarter basis over the period 1955 to 1980. A lower growth rate should imply a lower demand for money and provides a merit for higher levels of interest rates. Chart 3 also suggests that the pattern of