(Mervyn) King's Speech

Bank of England Governor Mervyn King spoke in Newcastle on Tyne (home of Northern Rock, in case you didn't know) last night. He defended the Bank against mounting criticism that it has let the inflation genie out of the bottle, while admitting that UK CPI will not move back to the Bank's 2% target until some time in 2012.

You can't blame him for defending the Bank's credibility, but consider these quotes from the official text (available on the Bank's website):

"....large and unexpected increases in the prices of a range of commodities, including food, have pushed up import prices. For example, over the past six months
the prices of base metals have risen by 25%, foodstuffs by 40% (with wheat prices up by 60%), and cotton prices by no less than 70%."

AND

"Second, there has also been a rise in world energy prices. Sterling oil prices have risen by 110% since the start of 2007 and gas prices by 130%. Those prices are determined in world markets in which demand, especially from some of the emerging economies, has outpaced supply. That too has pushed up on overall prices."

AND LASTLY

"The economy as a whole must deal with the legacy of extraordinarily high debt levels built up prior to the crisis. In particular, shrinking the size of the balance sheet of the financial sector will constrain lending for some time, as many of you will have experienced firsthand. The indebtedness of the financial system doubled, from 3½ times GDP in 1998 – already high by international standards – to over 7 times GDP in 2008. To appreciate the scale of that increase, even if the financial sector were to cap its debt at today’s level, it would take more than a decade for growth in the economy to return indebtedness relative to GDP to its 1998 ratio."

These things -- rising commodity prices, soaring energy costs and the extraordinary (and largely unproductive) ballooning of the financial sector -- only get the Bank off the hook if you think that they're in some sense exogenous to monetary policy. But of course they're not exogenous at all. As Mervyn King well knows, they're all in large part the result of the unprecedented decade-long laxity in monetary policy initiated by the Greenspan Fed -- and followed, with very little hesitation, by the Bank of England.