13th July 2012

Standard Life Investments: UK policymakers push progressive agenda

The British summer has disappointed even our perennially low expectations, with record rainfall leading to horrendous floods in many areas. The economic environment has deteriorated too, shaking investors’ already fragile confidence in global growth. Many central banks have reacted, with a powerful policy response in recent weeks. In Europe the ECB cut interest rates to a record low of 0.75%, while the Bank of England (BoE) announced an additional £50 billion in QE. Further afield, the People’s Bank of China lowered its benchmark lending rates, while we have already seen the US extend its Operation Twist programme. This may be welcome news for risk assets in the short term but what are the longer-term consequences of such action? Intrusive policy action can add to the uncertainty investors face, and create a damaging cycle of dependence - the dangers of a fire-fighting approach!

Fortunately, there are signs that a more progressive agenda for policy action is emerging, with a series of recent announcements in the UK suggesting the country’s policymakers may be taking a lead. Both the Chancellor and Governor of the BoE have recently recognised that the steady decline in bank lending has played a key role in restraining growth. In order to reverse the tightening of financial conditions facing the banks, they have suggested a number of policies designed to improve ‘credit generation’.

These include the BoE providing both long and short-term loans to banks to stimulate lending and improve liquidity within the banking system. There has also been a suggestion that the Financial Policy Committee (FPC), which monitors risks to the financial system, should have a secondary objective, namely to support economic growth. These initiatives should be viewed alongside other recent developments designed to support ‘credit generation’. For example, the Government's White Paper on adopting the Independent Commission on Banking’s proposals and the Treasury’s proposal to underwrite some of the risks facing loans for house building and investment in infrastructure.

Putting the various proposals together shows an evolution in thinking by the government. The previous emphasis on fiscal austerity, tighter bank regulation and QE, to keep bond yields and sterling low, has been unsuccessful, at least in terms of creating economic growth, jobs and, by extension, higher opinion poll ratings for the government. Cumulatively, the proposals suggest a more direct attack on the liquidity squeeze and, ultimately, a greater emphasis on underlying growth. At a time when global growth expectations are falling, investors can expect any country where policy is proving effective to be rewarded.

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The views and conclusions expressed in this communication are for general interest only and should not be taken as investment advice or as an invitation to purchase or sell any specific security.

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