Operation of monetary policy

Quarterly Bulletin 1987 Q4
Published on 01 December 1987

In the three months under review, which preceded the recent upheaval in equity markets worldwide, there was by and large greater stability in financial markets in the United Kingdom than had been seen earlier in the year. The authorities continued to take account of both the exchange rate and domestic indicators in judging the level of interest rates consistent with the government's aims for money GDP and inflation. By early August, it had become apparent that some rise in interest rates was appropriate and the authorities acted to achieve this. Earlier in 1987 the conjunction of massive demand for sterling from abroad and intense pressure for lower interest rates in the domestic markets had created a dilemma for the authorities. On the one hand, much lower interest rates seemed to be not fully warranted by developments in the domestic economy, where demand and broad money were buoyant, asset prices were strong and the pace of wage increase remained above that in our main competitors. On the other hand, pressures in the exchange market indicated that monetary policy was already tight: a sharp appreciation of sterling would have implied a further tightening, and could have damaged industrial confidence, with adverse consequences for the future productive capacity of the economy. Balancing the evidence, and on the basis that the demand for sterling was in part transient, connected with political developments in the United Kingdom, the authorities intervened heavily in the foreign 'exchange markets and allowed interest rates to fall. At the start of the period under review interest rates were lower than purely domestic factors alone would have indicated.

PDFOperation of monetary policy

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