The huge relief shown by both the US and the Uk Stock markets to the 0.5% (50 basis point) reduction in US interest rates says it all. The UK market bounce from the US news was bigger than the bounce from the Treasury guarantee on deposits. That’s because the interest rate cut is of more lasting use.

The current US monetary establishment has in the past appeared criticial of Alan Greenspan, the former head of the Fed who famously cut interest rates whenever a crisis appeared on the financial horizon. This kept the US economy performing very well, but of course allowed substantial debt to build up. Now it appears that the current Fed feels they have taught the banks and funds a sufficient lesson with the money tightness over the first part of this year, and are now resolved to cut rates to avoid a slowdown becoming a recession. I am glad they are now taking this view. I do not see much of an inflation problem, but see obvious signs of monetary distress with the sub prime crisis, the big falls in house prices in some states, and the likely slowdown of consumer demand.

Today there is welcome news that after weeks of saying it should not intervene in the longer term money markets the Bank of England is going to ease conditions by supplying ??10 billion. It is a pity they did not do this some time ago before the problems of the last week, but I guess it is better late than never.

There is going to be an argument over whether this means the Bank has been overruled by the Chancellor, or whether the Bank has had an independent change of mind. I do not think this is that important. What matters is the fact they are now doing it, which should start to ease the obvious tensions in our financial markets.

No-one can believe any longer that we have an independent Bank, after a week in which the Chancellor himself was part of the decision to make money available to Northern Rock, and the Chancellor himself announced a taxpayer underwriting of any deposit in a UK bank in a situation like Northern Rock. Both these decisions were very important for the conduct of monetary policy and for banking and market supervision. They show that democratic control has been asserted at a time of crisis. If the government has any respect for the truth they will stop reciting their silly soundbite that they made the Bank of England independent.

Anyone who believed the government’s spin that the Bank of England was independent needs to think again after the events of the last week. We saw the Bank set out a clear policy of keeping 3 month interest rates higher than its own Minimum Lending Rate, keeping the markets short of cash, and saying that any commercial bank that has made mistakes would have to bear its own losses.

We have now heard the Chancellor carry out an astonishing U turn, moving from this position to saying that all deposits in UK banks have some kind of government guarantee. At the same time,the Bank of England started to loosen conditions in money markets to make it easier for financial institutions. The Chancellor has taken control of the situation and has been making the important statements in the last few days.

I have gone hoarse trying to explain to people that Gordon Brown never made the Bank independent. On the contrary, in 1997 he took regulation of individual banks away from the Central Bank and gave it to FSA, and took managing the public debt away and gave it to the Debt Management Office under the Treasury. He also intervened with the Bank’s actions in foreign exchange markets, requiring them to sell substantial gold holdings at low prices.

His stated claim to fame that he made the Monetary Policy Committee more independent, and responsible for setting interest rates wasn’t the whole story either. He decided before the 2005 election to change the target he set them for inflation, which had the effect of keeping interest rates lower for longer, leading to a bigger build up of debt.

The truth is that in a democracy a Central Bank can only remain independent? for as long as the government think it is doing a good job. As soon as they disagree with it, or as soon as they want to achieve some new objective that the Bank hasn’t been asked to achieve or is failing to meet, the government overrules them. We saw this in Germany, which had a long period of an independent? Central Bank in the post war period. The politicians overruled it twice towards the end, once to effect a monetary union with east Germany on terms that made no banking sense, and once to order it to abolish the very currency it had been set up to uphold! The government won again!

I just hope that now the government has taken a lead on monetary issues, they will understand that they must ease conditions in money markets if they want to avoid a continuation of a very nasty credit crunch. Inflation was yesterday’s problem, created by easy money a couple of years ago. Today’s problem is a lack of money for all sorts of purposes. This government has lurched from boom to bust in its approach to allowing people and companies to borrow. They need to steady the ship.

As expected, the Federal Reserve Board is the first of the major central banks to realise the credit squeeze is too tight and interest rates need to be lower. It is good news that they have cut by 0.5% (50 basis points) in one go, to show markets they are serious about wanting to ease credit conditions.

It makes the actions and inactions of the UK authorities over the summer even more difficult to defend. The Chancellor and Bank simply watched as market interest rates rose above the Bank rate, as inter-bank lending dried up, and as cash became very short.

The UK banking system did not need a "bail out" and should not have needed the extraordinary taxpayer guarentee on all deposits. What it needed was a UK monetary authority that realised money market conditions were too severe, and cash in too short supply. Individual banks cannot issue banknotes and Treasury Bills. The Government and Bank of England control that monopoly, and did not handle it properly to preserve banking stability.

The UK authorities should now ensure they do keep UK market interest rates around Bank rate levels, and should cut the UK bank rate. The UK version of the credit crunch was an especially unpleasant one, and was made worse by the failure of the UK monetary authorities to preserve reasonably liquid markets. In recent days the bank rate set by the Bank of England meant little, as 3 month market rates were well above it, representing a further unplanned tightening of credit.

There was a good reason why the west needed to borrow a lot in the last decade. The advent of China and India as big producers led to a big increase in their savings. If the west had not helped recycle and spend that money we would have lived through low growth or recession. More recently the oil producers also built up big surpluses which needed recycling.

Some are now implying that lending money to people who could not otherwise afford to buy a home as wrong, and lending money to companies to expand was foolish. Yet a lot of the lending was sensible then and is still OK today. The lending which is going wrong has largely been forced into difficulty by too extreme a swing in interest rates and in anti inflation policy.

The authorities were not wrong to allow borrowing. They were wrong to encourage too much borrowing a couple of years ago by setting interest rates that were too low. Now they are wrong to deter so much borrowing, by setting interest rates that are too high. I just hope they realise in time. It looks as if they are going to start to lower rates on both sides of the Atlantic.

There is nothing worse that the authorites fighting the last war. The anti inflation war is won. Today we need to fight the anti recession war. If anyone thinks money is still too loose and credit too easily available, they must have been asleep for the whole summer!

Today inflation on the government’s measure, the EU CPI, fell again, to 1.8%. This is below the Bank of England target and indicates no problem on the infaltionary front.

At the same time the Retail Price Index rose to 4.1%. This is more in line with the inflation people are experiencing, as their mortgage, Council Tax, petrol and utility bills go up. RPIX is also running well above the CPI.

There are some thoughts on this:

1. What a fiddle Gordon Brown’s switch of inflation targets turned out to be. He told us the old 2.5% target on the RPI was the same as 2.0% on the CPI – a gap of 0.5%. The gap today is much larger.

2. Action taken recently to cut inflation in the short term is driving the RPI up, as it involves making mortgages dearer.

3. Whilst the current level of the RPi would argue for caution on the interest rate/inflation front, I think we are near the peak on the RPI. The people setting interest rates need to look ahead. For once I would be grateful if the Bank would stick to the CPI target and see they need to cut rates.

There is plenty of price cutting power out there in the global economy which is likely to reassert itself now fianncial squalls have hit western economies.

Anyone who believed the perpetual Labout spin that they made the Bank of England independent in 1997 must be changing their mind today.

The Bank lost its role in regulating banks in 1997. It lost its function to manage state debt in 1997.

It was overruled on managing the foreign exchange reserves in the early Brown years.
It was given a much laxer inflation target to keep interest rates down before the last election.

This week the Chancellor has grabbed the microphone and announced emergency funds for a bank and announced a complete guarantee for all deposits in UK banks.

What is there left for the Central Bank to do on its own?

The truth is, in a democracy a Central Bank is only free to make the decisions the government (and ultimately the voters) think are acceptable. Germany enjoyed one of the longest runs with an apparently independent Central Bank. That Bank in the post war period did a good job controlling Germany’s money supply and inflation. At the end of its period running the DM the government overruled it on two fundamental issues. On the first the government required monetary union with East Germany on terms the Bank did not like. On the second the government destroyed the DM, the very currency the Bank had been established to protect from political interference.

In the UK today the government has decided they cannot let the Bank of England watch as a bank strives to catch up with demand from customers to withdraw their savings. The Chancellor has done a masisve U turn since last Thursday when we woke up to his interview in the Telegraph telling banks in general they had behaved badly and it was their fault if they got into trouble.

Today’s announcement from the bank that it will be active in the market is designed to lower overnight and three months interest rates and reduce the cash shortage. Why did they delay so long before doing this? Other central banks have been more active. The gap between three month rates and minimum lending rates has been far too high for comfort.

If the Bank of England had eased rates at an earlier stage we might have avoided the drama of the last few days.

I usually favour open statements so investors, savers and voters can make their own judgements. On this occasion it seems clear that the decision to make a public statement about Northern Rock’s possible borrowing from the Bank of England caused many to want to take their money out of the institution.

Directors have to make sure their companies can pay the bills for the next year so they may continue trading. If the Directors of a bank feel they need a back up loan facility from their banker, the Bank of England, as well as relying on money from money markets and depositors, that may be prudent against the background of incredibly tight money conditions in the money markets. Did anyone need to make this public? It is not usual for banks or other companies to provide a running commentary on how they will borrow money, or how much they may need day to day. It is left to Directors, with their financial advisers, bankers and auditors, to sort these matters out. An absence of any statement to the contrary means we know that each business does have credit facilities and cash in place to meet its obligations.

We need to know whether there is now going to be regular commentary issued by the authorities on the financial state of the banks they supervise and assist? How could this be managed without occasionally repeating the scenes of the last few days?

The result of the authorities actions and words over the last few days has been to force them tonight to announce a guarantee on the deposits of all savers with the Northern Rock. We will need to see the small print of what this means, as the Chancellor’s statement was very short on detail.

Labour has consistently said two things about the economy since taking office: "No more boom and bust" and "We made the Bank of England independent which created economic stability". Both of these statements are misleading.

"No more boom and bust" conceals the recessionary periods which manufacturing has experienced, the boom and sharp slowdown in public sector spending, the contrast between booming financial and business services around London and the poorer performance of other parts of the economy.

The comment that the government made the Bank of England independent is absurd.

What Gordon Brown did in 1997 was to:

1 Remove banking regulation from the Bank of England and give it to the FSA
2. Remove public sector debt management from the Bank and give it to the Debt Management Office under the Treasury.

He went on to intervene in the Bank’s management of the foreign exchange reserves, leading to the sale of gold to buy Euros at a low price for gold.

His "strengthening " of the Bank’s role in interest rate decisions was the only move of power in the opposite direction. He showed he could limit Bank power this by changing the inflation target. He also kept the power to appoint members of the Monetary Policy Committee. The government has declined to explain why some members are renewed and others are not.

The truth is more mundane than Labour’s soundbites. The government has not abolished sharp fluctuations in activity and in the prices of some assets. It has continued to hold substantial influence over inflation, interest rates and the other main economic levers. It has built up a lot of extra public sector debt. What is happening now owes a lot to the actions, inactions, and statements of the government.

I am asked what should the Opposition now do.

My first advice is not to say anything which can make the problem worse. It is not a good idea for an Opposition to talk about individual banks, or to suggest that things are worse than they are acknowledged to be. The Oppositon should be the loyal opposition in times of crisis or difficulty. Careless talk can create or intensify bank runs. Confidence is a precious flower, and does not need more people trying to trample it.
Readers of this site will know I stayed off detailed analysis of the Northern Rock, not repeating rumours that were circulating before the news that it might borrow from the Bank of England. Since the queues started forming I have refrained from offering comment on the mortgage bank’s situation.

My second advice is to hit hard on the areas where the government is to blame, and where their words have been so different from their actions. The Chancellor has talked himself into a central position in this current credit crisis, by lending his office and the might of the Treasury to the decision to make Bank of England funds available to Northern Rock, and by his extraordinary attack upon banking lending practises a few hours before announcing his agreement to the lending facility. David Cameron is right to demand a statement from the Chancellor this week.

The Opposition needs to ask the following questions(amongst others):

1. Why did the government relax the inflation target before the last election?

2. When did the Chancellor first become aware of the rash lending practises of banks that he alleged last week in his Telegraph interview? Why did the government do nothing about this before if they really believed that?

3. Does he think money is still too loose in the economy? Is he happy with the further hike in mortgage rates and market rates we have seen in the last couple of weeks?

4. Given that the Consumer Price Index was last recorded at +1.9%, below target, and given the strong action now being taken on public sector pay, how much more inflation does the Chancellor think there is to squeeze out?

5. Given the way mortgage regulation was greatly increased by this government, why have these problems arisen?

The twin decisions to tighten money and to reveal the name of a bank that needed to use the lender of last resort facility have done considerable damage to confidence in the UK. Attempts to lay the blame on sub prime mortgage lending in the USA will not provide a full explanation of what has gone wrong here at home. The UK authorities decided not to intervene in the 3 month money markets, allowing a further increase in these interest rates that mattered over and above the substantial increase in Minimum Lending Rate the Bank has brought in since the election. The markets were too tight for comfort, just as they were too easy a couple of years ago when borrowing was on a big scale.

The Chancellor told me a few weeks ago that mortgage regulation was necessary and implied it was working well. He needs to rethink his position. How could we get into the current position if mortgage regulation was working so well? The government after all, increased regulation well before this problem hit. It is another case of regulation that cannot deal with the most important problems affecting the market. The difficulties have been created by the credit crunch, which has changed circumstances substantially. The crunch has been brought on by the authorities shifting belatedly from interest rates that were too low to interest rates that are too high. They are going to have to cut rates. I expect the US will start the move soon. The UK will have to follow.

Step One: Before an election, government changes inflation targets – as a result interest rates are kept too low

Step Two: Government and monetary authorities watch as private sector borrows large sums of money at very attractive rates, to lend on and to create new funds. Monetary authorities allow plenty of cash to be available in the markets to allow this to happen, and fail to issue clear warnings.

Step Three After an election authorities realise inflation is going up too quickly, so they drive up interest rates to rein in credit.

Step Four: Chancellor gives interview accusing the banks of lending to people without checking if they could repay, and calls for a return to "good old fashioned banking" implying there is something wrong with modern banking.

Step Five Someone decides to publish the fact that a particular institution may need the lender of last resort facility at the Bank of England.

Step Six: Authorities watch TV to see queues forming as depositors ask for their money back.

This has been a disastrous week for the Chancellor.
Just a few hours after his attack on the banks appeared in the Daily Telegraph he endorsed a decision by the Bank of England to make money available to any bank that needed cash from the lender of last resort. He lurched from saying "Institutions have in some cases been prepared to lend to people without checking if they were ever going to repay it" to having to reassure people about the safety of the banking system for depositors.
Perhaps he will now think more carefully about his overall responsibility for maintaining confidence and stability in the financial system, rather than indulging himself with grandstanding comments on alleged mistakes of the financial world. It is especially rich to hear about too much lending and borrowing from this government, which has so increased our national debt burden.

He has also concluded that we need more transparency. He told the banks that they need "to open their own eyes and be more honest".
I agree that we need updates on the current profit forecasts of the main banks as soon as possible if any adjustment needs to be made. We had a profit revision from Northern Rock yesterday. Profit forecasts – revised where they need to be revised – could reassure markets, because the banks have to include bad debts and losses on financial assets they hold within their profit and loss accounts and would be able to show these are manageable.There does not need to be any change to the law or regulation – directors of quoted companies like banks are under a duty to keep the market informed of changes in their profit outlook.

This week has shown that more transparency is not always helpful.
It was helpful for the Bank to remind us it is the lender of last resort and it is prepared to make money available to banks that need it.
It was not helpful to learn the identify of the institution that had applied for a loan facility.

All banking depends on confidence. All banks to some extent borrow short and lend long. They can do so only because people do not all want their money back from any given bank on the same day. The Chancellor’s "good old fashioned banking" depended on raising lots of small deposits from individuals around the country through a branch network. Much of this money could be withdrawn on demand, or at relatively short notice periods. This money was then lent to others, often for longer time periods. The difference between the rate the depositors received and the interest charged on the loans made the bank profitable. For such a model customer confidence is especially important.

There is nothing wrong with lending and borrowing in sensible quantites – indeed it is crucial to a successful enterprise economy. Older people tend to have money to save and invest, and younger people tend to need money to buy homes and build businesses. It makes sense for banks to let this happen. The quantity of money lent is largely determined by the interest rate, which in normal conditions is fixed by the Central Bank. The current situation is the result of past government and Central Bank decisions, as well as the result of the judgements of the commercial banks.

It is vital that confidence is maintained in the system. If people become distrustful of banks then credit collapses, house prices fall, businesses cannot borrow to expand or even to continue, jobs are lost.

I just hope the Chancellor has learned this week that what he says matters, and that he above all has a duty to build confidence.

Readers of this blogsite will know I have felt for sometime that the difference between the Uk and the US would turn out to be one of timing of the exit of troops from Iraq, rather than something more fundamental.

The political departure of Mr Blair before Mr Bush speeded up the political imperative in the Uk to bring troops home. The British military also felt they were making more speedy progress in training and equipping Iraqis to take over their functions in Basra. The British and the US military/diplomatic establishments both agree that military actions to try to create order on the streets can only succeed if the opportunity is also taken to create a political settlement. Now the US is divided between Bush supporters who want to keep more troops in Iraq for longer to give more chance of finding a political settlement, and more chance of reducing the violence, and the Democrats who want to bring more troops home more quickly.

The President and his chief military adviser believe that they can have the best of both worlds – reduced violence thanks to the surge coupled with some troops coming back to the USA before Christmas. They will also have the advantage of seeing what happens to crimes and violence levels in Basra now the UK military have turned more of the policing task over to Iraqi forces. There still needs to be a stronger diplomatic and political surge as a complement to the military activities. It cannot be a permanent solution to have large numbers of US troops keeping order on the streets, and much remains to be done for the Iraqis to find a way of conducting self government that all communities can accept.

What a difference a day makes.
Yesterday morning I awoke to the Chancellor’s interview telling us banks had to live with the consequences of their business decisions.
Last night I heard that he had agreed to a loan from the Bank of England to Northern Rock.
I think his (and the Bank’s) decision was the right one.
It makes his statements even more silly.

The consequence of Northern Rock’s business model was that if the money markets tightened too much Northern Rock would find it difficult to obtain the substantial funds they needed at competitive interest rates. In the days of easy credit – encouraged by the UK authorities by low interest rates – the Northern Rock model worked very well. They had access to lots of money at competitive rates compared to more traditional mortgage lenders who obtained more of their money by collecting deposits from the public to lend on to people buying property.

There was plenty of comment around in the marketplace about the difficulties of raising sums from the shorter term commercial paper market. The authorities must have known about the position of Northern Rock. Why on earth did the Chancellor blunder in with his ill judged remarks so close to endorsing the decision for the Bank of England to make money available to them?

It is important that the authorities handle this situation well. Confidence is everything. I hope on this occasion actions will speak louder than words. Depositors with Northern Rock should be relieved that the UK authorities have gone to the aid of the company.

It leaves us asking the reasonable question, what business mistakes or problems will the Chancellor refuse to alleviate? Is he coming round to the view that these conditions in money markets are such a big change, created in part by a lurch in money policy from too easy to very tight, that it would not be right to starve financial institutions of cash? This would be an important change of tone from yesterday, and one more likely to reassure markets.

Some weeks late, the Chancellor has at last had something to say about the credit crunch.

Let’s look at the crucial statements from the interview:

"One of the things that happens with low interest rates is that banks look around for better returns"

Yes – exactly. The low interest rates generated by this government’s changing the inflation target to the unrepresentative and low figures of the CPI, allied to the international interest rate background, did encourage banks to look around for new and possibly more profitable ways to lend money. That’s what low interest rates always do, and any sensible government would have realised that before changing the target. If they had wanted to avoid a further burst of extra credit they would have stuck with the RPI, the index that is still used for indexed government bonds and in most pay negotiations.

"Institutions have in some cases been prepared to lend to people without checking if they were ever going to repay it"

No, No, No. This is prejudice by someone seeking to avoid the blame. I know of no bank that ever lends without having an agreement on when the money will be repaid and an understanding of how that will be financed. The problems in the money markets are arising because the money in question has to be repaid after 3 months, at a time when the government and Central Bank is now sending a totally different signal out, that it wants banks to lend less. Nor did banks stop assessing risk. It is,as Darling himself admitted above, a case that when interest rates were very low risks looked lower. Now Central Banks have put interest rates up a lot from the low, risks look different. Some of the funds that went wrong were often thought to be low risk funds, because they thought they were dealing in high quality paper as assessed by rating agencies. Higher interest rates and the wild gyrations of the markets have changed that. The government did not warn banks in the good times to lend less. It is perverse that now banks cannot lend as much they are warned to lend less!

"Institutions themselves need to open their own eyes and be more honest"
I doubt if there are many senior bankers with their eyes shut at the moment. As one who has said we need more information to help the markets, I would not endorse the emerging view that we need more regulation of international banking. I had in mind a quick word from the Bank of England and the FSA to the leading banks, advising them to make a statement of how big an adjustment to profit they felt they might need to make in their next figures to write off any exceptional losses from the market turmoil. Imposing yet more cost and obfuscation on them will simply intensify the lending squeeze, not help resolve the position. The market is trying to form a judgement of how much each big bank has lost on poor quality mortgages, and on lending to support investment in various types of mortgage and short term paper.

We learn Mr Darling is going to discuss these matters with the US Treasury Secretary and with European Finance Ministers. I just hope when he does so he is better informed than he appeared to be yesterday for this strange outburst about a return to "good old fashioned banking." What he should be doing is:

1. Asking himself if he should in the longer term carry on using the CPI for the inflation target at the Bank of England.
2. Asking many whether now the world’s Central Banks should be turning their attention to fighting falling activity and slowing growth. Japan’s economy is now experiencing falling output, and most forecatsers expect the US and the main EU economies to slow from here.
3. Talking to the Bank of England about how far they propose to allow mortgage and other lending rates to go above the base rate they solemnly set each month, before they too like the Fed and ECB recognise the need to intervene in the money markets to get actual rates more in line with the rates they are setting.

At the moment the system of monthly interest rate meetings at the Bank which this government confirmed as their principal macro economic policy is marginalised when it comes to the rates people pay for their borrowings and the availability of credit. A policy of lecturing banks on how to lend is not going to work. The Chancellor is the elected politician responsible for this problem. He has at last taken a step to acknowledge his responsbility by his statements yesterday. Now he needs to think again, realise his statements were unhelpful, and try behind the scenes to sort out the mess in the money markets which arises from the boom and bust approach to lending which has characterised the last few years.

If he wants a "more honest" approach he should start by publishing proper figures on how much the public sector has borrowed in recent years, including full accounting for Network Rail and other guaranteed borrowing, and full figures on potential liabilities under Public Private Partnerships and Private Finance Initiatives. He will find the private sector reveals more about its finances than the government does on its own balance sheet.

(Blog posting that went missing yesterday)

The government tells us that mortgage regulation is a good idea, and works well in the UK.

Perhaps they can explain then why Victoria Mortgage Funding has been placed in administration? This was reported this morning as the first UK casualty of the credit crunch and the sub prime crisis. Are the government saying there will be no more such problems as their regulation will make sure loans only go to people who can afford them in all conditions?

Ministers would be wise to see that the mortgage reposession rate is rising in the UK, and to understand that just as low interest rates in the US led to some people obtaining large mortgages which they cannot now repay or service, so the same happened here. It didn’t make any difference that the Uk introduced mortgage regulation.

The truth is the government has helped create a boom and bust in the credit markets which is having an impact on the availability of mortgages and on the balance sheet strength and profitability of credit institutions.

The government has said it regrets housing being unaffordable to so many people. It has said it wants housing to be more affordable. The PM himself has proposed building more houses so there are cheaper homes available.

Ministerial speeches do not reveal much understanding of how the housing market works, or why house prices have risen so much. Ministers seem to forget that most homes bought and sold are second hand homes, not new ones. Many are bought on mortgage. The main reason house prices have risen so much under Labour in recent years is that we have lived through a period of easy money, when the government and the Bank of England have effectively encouraged people to borrow and borrow by keeping interest rates so low. The banking and financial service regulators, who regulate the banks and building societies, have been relaxed about these institutions lending higher multiples of ever higher property prices, on the basis of "affordability". When interest rates are low even a large mortgage on a high house price is "affordable" when comparing the level of interest payments to the level of many people’s salaries. In conditions of easy money, requiring the building of some more homes at lower building cost will not necessarily create much more affordable housing. The market as a whole will still be buoyant thanks to easy credit, and the price of the new cheap homes will rise in the second hand market as a result. Land may get dearer through the extra credit, thwarting the attempt to build much lower priced homes.

More recently the Bank has realised that it had allowed inflation to rise too quickly as a result of the very easy credit conditions it had presided over or stimulated. It has put interest rates up substantially from a low base. People have found their mortgage payments rising sharply as result. An affordable mortgage at 5% may not be affordable at 7.5%, as the monthly payments have gone up by roughly 50%.

The government finds itself in a paradoxical position. Having called for more affordable homes, it should be delighted if house prices now fall as a result of the credit tightening. Somehow I don’t think they will see it like that, because of course they did not really it mean it when they said they wanted more affordable homes, if that means everyone’s house falls in price. I have never heard an interviewer ask this simple question of Labour Ministers – "When you say you want more affordable housing, doesn’t that mean you want house prices to drop?"

If all things were equal house prices would now fall. Today we hear that mortgages have gone up in price again. It shows both how the Bank of England is no longer controlling the interest rates that matter to the rest of us, and shows that of course there is an impact on the real economy from the problems in financial markets. Mortgages are dearer, so people will only be able to borrow smaller sums of money because the monthly interest payments will be higher. There will also be fewer mortgages available. Banks and Building Societies have less money to lend, so they will be less willing to lend to the marginal cases. In other words, the very people the government wants to help who find it difficult to afford a home of their own by purchase, will be the ones most badly affected. All this implies declines in house prices, just as we saw declines in share prices when the Stock Market first woke up to the credit crunch.

However, things are not quite that simple. Most estate agents are forecasting much slower growth in house prices, rather than actual declines. They usually do say that but they could be right. There are two pressures which help offset the impact of fewer and dearer mortgages.

The first is the government has chosen this moment to launch Home Improvement Packs. This is reducing the number of homes for sale. People are not now so willing to put their home on the market just to see if there are any good bids out there, as they would have to spend a lot of money on a HIP before they were allowed to! Just as demand is being reduced by dearer credit, so supply is being reduced by government interference.

The second is there are still a lot of cash buyers in the UK. The bonuses paid this year in the financial sector have been good, and many of the recipients are keen to buy some permament reminder of their success. There are still many rich foreigners in London with cash to buy. This could keep things going until the cavalry arrive – and arrive they will. The Central Banks of the USA, Europe and the UK are likely to cut interest rates, with the US leading the way, probably quite soon.

The pictures of the TUC meeting told a strange story.
Gordon Brown stressed his Union background, explained how much he agreed with their aims, and offered them public support for more jobs.
They sat in silence, brandishing cards demanding a better pay deal for public sector employees.
It reminded us all how much the Trade Union movement is now dominated by public sector employees, and what a mess Gordon and his colleagues have made of handling their pay.
The public sector has enjoyed a big increase in recruitment – not matched by a similar increase in productivity – and has experienced good pay rises in the period 2001-2006. The pay rises for the medical staff were especially good as NHS budgets benefitted from big increases in spending.
The government now realises it overdid it, and did not ask for the "reform" (higher productivity) they always said they were seeking when putting all the extra money in in such a hurry. They are trying to rein it back in, by having pay increases this year below inflation.
Its been a dreadful way of running things. There was insufficient gain from all the extra pay in earlier years – public sector employees took the view it was their desert – and now there is real anger they are expected to take a reduction in real pay when compared to the RPI – although not compared to the CPI.
What we need is a way of rewarding the public sector that generates better service at lower cost. The best way out of his boom and bust approach to public sector pay for the Prime Minister would be to negotiate proper productivity/qualitty deals, so employees get something for something. The present approach creates misery, and a desultory run of public sector strikes to make the taxpayer suffer even more.

It has been a shared mantra of government and the City that Bank of England independence is a fine thing. Both sides have joined in this misrepresentation of what happened 10 years ago when Gordon Brown took over at the Treasury. Both sides have liked the fairly low interest rates and the fairly low inflation that characterised the period up to 2006.

Today the City is fed up with the higher interest rates, the higher inflation and the credit crunch that is grabbing the headlines. At last City commentators are prepared to ask a few questions about the fabled independence of the Bank, and to show some disappointment at what is now unfolding. I heard one this morning saying that the Monetary Policy Committee should take account of things other than just inflation when setting interest rates.

10 years ago Mr Brown did not make the Bank of England independent. He mainly reduced its power. He took debt issuance away from it and gave it to the Debt Management Office controlled by the Treasury. He took individual bank supervision away from it and gave that to the FSA. He overrode its advice on the management of the foreign exchange reserves, insisting on gold sales at low prices.

What people have in mind when they say he made the Bank independent is the changes he made to the power to set interest rates. He apparently strengthened the independence of the Monetary Policy Committee of the Bank to settle overnight interest rates by meeting once a month and declaring a rate for the following month.

Even this "independence" has been limited by Treasury interference. The Chancellor decided to change the target the Bank had to hit for inflation at a crucial point. Prior to the 2005 election he switched from 2.5% on the RPI to 2% on the CPI. As the CPI goes up less quickly than the RPI this was a relaxation of monetary policy, requiring the Bank to keep interest rates down when they should have been raised. This was an inflationary move. The Chancellor also made sure he had considerable control over who sits on the Monetary Policy Committee.

The Chancellor made the task of controlling inflation far more difficult in the run up to the 2005 election by large and inflationary increases in public spending, much of which went into higher public sector pay rates, allied to big increases in government borrowing, both on and off balance sheet. It is fashionable today to blame private sector market participants for being too inventive in the over borrowed debt vehicles they designed in the easy money years. Maybe we should blame the UK government too, for their elaborate Public Private Partnerships and Private Finance Initiatives to buy public services on the never never.

What should be done? To put things right there are several courses of action the new Chancellor needs to take:

1. Return to an RPI target for inflation – RPI is the figure used for indexed savings products and for wage settlements linked to prices, so it should be the one used for inflation targets for the economy as a whole
2. Get public spending and public sector wage increases under control – as the government is at last trying to do. Brown’s best period as Chancellor was when he followed Conservative spending plans at the beginning. That kept inflation and public borrowing down.
3. Only allow PPPs and PFIs when genuine risk is transferred to the private sector, and account for them on the government’s own balance sheet. Stop fudging the figures in the UK’s two macro economic rules about borrowing.
4. Allow Parliament to confirm or reject Monetary Policy Committee members
5. Cut out some of the waste from public spending.

There is a fuller critique of the so called independent Bank of England policy and Gordon Brown’s role in the inflationary bubble in the Conservative’s Economic Policy Review, "Freeing Britain to compete" which can be downloaded from this site. Chapter 2 of the Report attracted scarcely a word of attention in the publicity which followed its launch, yet it is in many ways the most important Chapter with recommendations that go to the heart of how you create conditions for economic stability and growth.