100 articles on Economic- (1): On Uk inflation.

7 month ago, i wrote an article expressing my view on the BoE monetary policy, stating that the bank shouldnt raise the interest simply because inflation caused by soaring international commodities price.

7 month have passed, and on recent BoE monetary policy committee meeting (MPC), the BoE sill voted to keep the interest rate low at 0.5 %.

The recent year to year monthly inflation index might look worried a bit,however, if we taking the VAT increased effect out, the overall inflation rate is actually quite moderate.

According to the golden rule of Monetary discipline, MV=PT.
where
M= nominal quantity of money
V= velocity of circulation
P= price level
T= total quantity of goods.

The product of P and T determined GDP. Given the UK GDP only growth moderately, and inflation rising fast, this means the total quantity of goods being purchased is declining。 （this should be worrying sign)

Milton Friedman once argued that the central bank should target the money aggregate instead of interest rate to control the inflation.
The money aggregate , whether M1, M2, M3 or M4. had been contracting since january. And contractionary since 2008 if we ignore the effect of the Quantitative Easing.

Hence, my guesing is that, the current inflation mainly stem from the VAT rise, global commodities rise, depreciation of pound causing rise of price for foreign goods, and the temperory effect of the Quantitative easing.

There is no immediate pressure for inflation judging from the change in money aggregate. Hence, the BoE shouldnt raise interest rate now just to tackle the inflation.

What the low interest rate might do is reduced the incentive of people to hold money, hence increase the velocity of circulation, which might initiated another round of inflation. However, there are many other factors that influence the people desires to hold money. One is the worrying economic downturn, which required more cash for emergency. Another is the increasing price of essential expenditure ( such as food and energy), forcing people to horde more money now for the use of future even though the real interest rate is negative.

Thus, in my opinion , the BoE should keep the interest low, until the economic show strong sign of recovery, and money aggregate start to reversing its downward trend.

However, i do not personally support the BoE action which hurt the saver to help the debtor. Lowering the interest rate, is just one of the least painful action which we need to take now, at least from what i known now.



The graph. Data taken from Bank of England and National office of statistic website