This issue was raised yesterday by the Shadow Chancellor John McDonnell in his speech to the Labour party conference. Already there have been a lot of misconceptions so it is time to take a look again at the mandate of the Bank of England. First let us consider his speech.
I will also be setting up a review of the Bank of England.
That seems perfectly reasonable as it has in my opinion been shown up as flawed by the credit crunch era. However we hit choppy water early.
Let me be clear that we will guarantee the independence of the Bank of England.
There are two major problems here. The first is demonstrated by the £375 billion of Quantitative Easing or QE and its remit letter. You see it required the Chancellor Alistair Darling to not only authorise the concept but also the amount (£150 billion back then). How independent is that? We may also have a reason why the present Bank of England Governor seems not to be keen on QE.
Also there is the issue of the institution being taken over by the UK establishment. Last night at the Royal Statistical Society the presentation on the Bean Review on UK Economic Statistics was given by a Vice Chairman of the BBC Trust and a former member of the Government’s Statistical Service. Oh and the Review is led by a former Deputy Governor of the Bank of England Charlie Bean. Every now and then the meeting heard the word “independence” almost chanted whilst I mulled independence from what?
The major plank of the new plan came here.
It is time though to open a debate on the Bank’s mandate that was set by Parliament 18 years ago. The mandate focuses on inflation, and even there the Bank regularly fails to meet its target. We will launch a debate on expanding that mandate to include new objectives for its Monetary Policy Committee including growth, employment and earnings.
The first sentence will come as a surprise to the Governor of the Bank of England as he thought the mandate was changed in March 2013!
Thank you for your letter setting out the new remit for the MPC. It is, in my view, a sensible change to previous remits and contains useful improvements to the framework.
The second sentence I completely agree with and will discuss it later. The last sentence seems as though it is unclear about the current mandate which does include this.
to support the economic policy of Her Majesty’s Government, including its objectives for growth and employment.
So the addition is earnings and let’s face it as I wrote on Friday the Bank of England did do its best for earnings in 2014 by raising the pay of the Financial Policy Committee by 17% and for the board of the Prudential Regulation Authority by 32%. Apart from that what could it do?
What alternatives could come in?
The McDonnell speech looked as though it was affirming the supremacy of inflation targeting so Robert Peston of the BBC has suggested this.
For those critics of Bank inaction, an increase in the inflation target to 3% or so would be a possible solution.
In the past Robert Peston has been well-connected with the Labour party ( he wrote a biography of Gordon Brown) so he may well be an “insider” still but of course the Labour party has changed so we cannot be sure. One interesting facet of the situation is the choice of 3% as a target which to be the best of my recollection is unique. Usually those who want to ease policy choose 4% as those setting inflation targets seem to have a bias against odd numbers! Perhaps they thought that choosing 3% would be the equivalent of scaring the horses and decided on a halfway house compromise.
One of the new economic advisers Simon Wren Lewis has suggested policies along that line.
We should use the monetary and fiscal tools we have at our disposal (and invent some new ones if need be) to do so. There is no magic to raising demand – we have various tried and tested means of doing so. The basic barrier to raising demand has been and always will be inflation, so when that barrier is nowhere in sight (in fact appears to be moving further away) it is a criminal waste not to expand demand.
Is it rude to wonder if the Ivory Tower occupied by Professor Wren-Lewis is next to the one occupied by the Riksbank of Sweden with its -0.35% interest-rates and a fast growing economy. Both seem unable to look down from their towers and see that overheating housing markets are a sure sign of inflation.
Oh and he may well move towards the Nominal GDP targeting that I analysed yesterday.
Nevertheless, what my view implies is that – all other things equal – the case for a nominal GDP target relative to the current regime is rather stronger in the UK than it is in the US right now.
What does he prefer about the US framework. In essence it is considered to have moved towards a dual mandate as described below by the St.Louis Fed.
The FOMC mentioned “maximum employment,” the second part of its dual mandate required by HH, for the first time in its December 2008 policy statement……., the FOMC began stating its objectives in terms of “maximum employment and price stability”
What about Joseph Stiglitz? Well we get a clue from his views on the US.
But, in the current circumstances, higher inflation would be good for the economy. There is essentially no risk that the economy would overheat so quickly that the Fed could not intervene in time to prevent excessive inflation.
So higher inflation is good and central banks can easily control it. If we look at British economic history then neither of those have proven to be true.
Let me welcome the idea of a debate around inflation targeting. In its current form it has plainly failed as it otherwise we would not be where we are. However simply raising the target has a multitude of problems. Firstly how does making everybody worse off in real terms improve things? Secondly currently unless you drive your currency lower there appears to be no way of driving consumer inflation higher with Japan for example making enormous efforts to end up at 0%. Oh well! As Fleetwood Mac put it. Driving your currency lower just makes everybody worse off in another way and if it ignites inflation will for example make them doubly worse off. So there is an element of misleading people by confusing nominal with real changes.
In response I would argue as I did last night at the Royal Statistical Society that our measure of targeted consumer inflation should include asset prices which in the UK would mean house prices. An entirely different inflation picture would be provided right now as we would correctly be looking at falling good prices but rising prices for assets and the service-sector. Rather than 0% we would be looking at more like 1%. So with a nod to the stunning view it provided from Chelsea Bridge last night we need to consider the whole picture and sing along with The Waterboys.
You saw the whole of the moon
The whole of the moon!
Oh and in the section on the UK establishment I have been unfair on Diane Coyle who has published some interesting and good ideas but my point is that such thoughts are collectively rare in the UK establishment.