Cause for Concern?
What the Street is Saying
What Does This Mean?
Snap Will Be Okay
The Guardian view on the Bank of England: independence and accountability
t is 20 years since the Bank of England was given the right to set interest ratesby Gordon Brown. In the two decades since, the power wielded by Threadneedle Street has increased as its performance has got worse. It is hard now to remember how serene life was for the Bank in the early days after it was granted operational independence. Stripped of its role as supervisor of the UK’s banks, the Bank effectively became a monetary policy institute, with the nine members of its monetary policy committee tweaking the cost of borrowing to hit the government’s inflation target. With cheap Chinese goods keeping prices low, this was not especially hard to do. Mervyn King, the Bank’s governor from 2003 to 2013, called the late 1990s and the early 2000s the Nice decade – as in non-inflationary consistent expansion – and it was an apt description.
Apt, but incomplete, because while the Bank was congratulating itself on hitting the inflation target, it failed to do anything to prevent the biggest speculative bubble since the 1920s. To be fair, this was not entirely the Bank’s fault. The crisis exposed the weaknesses of Labour’s tripartite system of financial supervision, with responsibility shared between the Treasury, the Bank of England and the Financial Services Authority. But the Bank did not realise until it was far too late that crises can erupt even when inflation is low. Like other central banks, it was guilty of groupthink.
The moment when the bubble burst, the summer of 2007, exposed the flaw in New Labour’s political argument for granting the Bank operational independence. Ceding control over the cost of borrowing, it was thought, would give the Labourgovernment credibility in the City and prevent the runs on the pound that had proved so electorally costly in the past. The events of 2007-09 proved otherwise. When it came to the 2010 election, voters laid the blame for a long, deep recession at the government’s door. The Bank, by contrast, was praised for taking the action needed to prevent a second Great Depression: cutting interest rates to 0.5% and printing hundreds of billions of pounds of electronic money through the process known as quantitative easing.
With its pre-crisis failures conveniently forgotten, the Bank’s sway increased. George Osborne gave it back power to police the City and established a new financial policy committee with wide-reaching powers, including the right to decide how much a citizen could borrow for a mortgage. As well as taking on this macro-prudential role, the Bank became more political. Theresa May used her party conference speech last year to note that ultra-low interest rates and QE have consequences for the distribution of income. The losers have been savers; the winners have been those who own shares, bonds and real estate, who have seen the value of their assets rise.
The Bank’s counter-argument – that aggressive use of monetary stimulus has helped everybody by boosting growth and reducing unemployment – has merit. Even so, the recovery from the recession has been feeble. Productivity growth has been woeful and the balance between a loose monetary policy and a tight fiscal policy has been wrong. The risk is that keeping interest rates at 0.25% leads to the same reckless borrowing as before. Ominously, household debt levels are creeping back towards their previous record highs.
The Bank is now in the strange position where it is both stronger and more vulnerable than it has ever been. The criticism aimed at Mark Carney, the Bank’s governor, for his comments during the Scottish and EU referendums are merely a foretaste of what it can expect if another crisis erupts in the next few years. Willem Buiter, one of the original interest-rate setters from 1997, says central banks should “stick to their knitting” and confine themselves to setting interest rates and acting as a lender of last resort. At the other end of the spectrum, Adair Turner has argued that in certain circumstances the government should instruct the Bank to print money for public spending or tax cuts. Ed Balls, the original architect of the 1997 blueprint, says there should be a systemic risk body chaired by the chancellor that would set a mandate for macro-prudential policy.
A simple principle links these approaches: the Bank has become more powerful and more political but not more accountable. This needs to change, either by cutting the Bank down to size or by beefing up political oversight. Otherwise, the current consensus in favour of its independence will not hold.
This article was first published by the Guardian on the 04/05/17.