Cover of MoneyWeek magazine issue no 735

What George didn't tell you

26 March 2015 / Issue 735

George Osborne’s Budget speech was full of paltry tweaks that will fail to deliver the serious spending overhaul Britain needs, says James Ferguson. Read this week's cover story here.

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Merryn Somerset WebbEDITOR'S LETTER

Merryn Somerset Webb

Why no inflation?

How times change. In the mid-1970s, UK inflation as measured by the Retail Price Index hit 27%. The general consensus was that this was a very bad thing. This week, inflation in the UK, as measured by the government’s preferred metric, the Consumer Price Index, hit 0%.

This is also considered a very bad thing, so much so that the UK’s monetary policy – lots of money printing (QE) and super-low interest rates – has been specifically designed to prevent it from happening. So what’s gone wrong? Why have super-low rates and QE not created even a little bit of inflation?

The answer is partly about demographics. As we have written before, the older your population, the harder it is to force it to consume (see our interview with Paul Hodges). But there is more to it than that.

We’ve all been taught that QE instantly causes inflation, says market strategist Ed Yardeni. Not so. Keep very easy money in place for too long (as the UK and US arguably have) and it stops doing what you want it to.

Borrowers are eventually “maxed out. They can borrow and buy no more – so demand just can’t be stimulated.” Instead, easy money stimulates supply: the free flow of cash allows “zombie companies to stay in business”, even if they lose money.

Projects that would never have got off the ground with normal interest rates (in the shale industry, for example) find raising money all too easy. The result is “zero inflation with a whiff of deflation”.

This is a disaster for all sorts of reasons.

• Read the full editor’s letter here: Why no inflation?