The Bank of England’s narrative about why inflation is high and rising and how it can be tamed appears to be very different to that of Liz Truss, the current favourite to become the next prime minister.This is a little concerning.The Bank argues that inflation will hit 13% in October largely because Vladimir Putin has caused energy prices to spike to dizzying, astonishing, ruinous levels and that this is something it is powerless to prevent.
It adds that for it to have kept inflation anchored at 2% in the last year it would have had to one: anticipated the Russian invasion of Ukraine and two: raised interest rates “miles into double digits," creating an even bigger recession than the one we now face.Ms Truss and her team have a different take. They argue the Bank is in part to blame for spiralling prices, suggesting it should have acted earlier and more decisively to raise interest rates and that its failure to do so means the cost of borrowing will now have to rise by more than it otherwise would have done.
The Bank believes the worst cost of living squeeze for 60 years (driven overwhelmingly by runaway prices rather than tax rises) will knock such a colossal hole in the disposable incomes of UK households and businesses that a recession of some description is now inevitable.The Bank is raising interest rates - and in doing so will intensify the squeeze - because it says it sees signs that inflation is starting to feed itself domestically and it needs purging.
In its view a downturn and higher unemployment are regrettable but necessary consequences.
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Ms Truss claims a recession can be averted. She blames Rishi Sunak’s tax rises for sagging economic growth and argues that if she becomes prime minister, growth can be revived by the immediate implementation of a package of tax cuts worth more than £30 billion.If the Bank is right then rampant inflation and the looming recession will make Ms Truss’s tax cuts much harder to deliver.
Indeed, whoever becomes the next prime minister is likely to have to immediately prioritise greater spending, on yet more financial support for struggling households and on reinforcing the budgets of vital public services like the NHS.Mr Bailey and Ms Truss appear to have two very different world views. Regardless of which one you find the most credible, it’s hard to see how they can be easily reconciled should Ms Truss win the leadership contest.In such an event common ground would hopefully be quickly found because in the months ahead it’s in all our interests that monetary and fiscal policy in the UK work in harmony.