Left Outside

Regime change at the Bank of England?

Mark Carney was poached last week to replace Mervyn King as Governor of the Bank of England. As though replacing an incompetent central banker with a competent central banker wasn’t good enough, the news just kept on getting better:

From our perspective, thresholds exhaust the guidance options available to a central bank operating under flexible inflation targeting.

If yet further stimulus were required, the policy framework itself would likely have to be changed. For example, adopting a nominal GDP (NGDP)-level target could in many respects be more powerful than employing thresholds under flexible inflation targeting. This is because doing so would add “history dependence” to monetary policy. Under NGDP targeting, bygones are not bygones and the central bank is compelled to make up for past misses on the path of nominal GDP

I’m behind the curve a little bit on this one, but it is potentially huge news. Remember that under inflation targeting if you crash an economy but get inflation back up to a positive but low value then you’re more or less out of stimulus options. Hello lost decade. With a target for the level nominal GDP you must make up for any shortfall. Hello recovery summer.

Now, Mark Carney isn’t saying he wants to implement NGDP targeting, he isn’t even saying other people might want to implement it. He is merely saying that it is an option and central bankers need more options. The anti-Yes, Minister. “Something must be done. This is something. But there are other somethings too.” Eminently sensible and of course very central bankerese, as you would expect.

The Government is replete with figures who already find this option attractive. Giles Wilkes, much missed blogger, now my favourite coalition apparatchik (low praise indeed!), wrote the book on this from a UK perspective in 2010 in his paper “Credit Where It’s Due.” His Boss, Vince Cable is also sympathetic. Indeed, even George Osborne “said he was pleased Mr Carney was discussing such ideas.”

What makes this exciting is that implementing this policy revolution is really easy given the laws on the books in the UK.

One interesting thing about central bank independence in the UK, is that there are very few checks or balances protecting it. The Bank must aim for “price stability,” but the Chancellor can change the definition of “price stability” whenever he wants. It’s right there in the 1998 Bank Act. I thought I was the first UK blogger to cover this, but actually Britmouse got there a full two months before I picked it up. This isn’t an esoteric or obscure fact, if it’s in the FT it’s more or less in respectable discourse.

Politically, it would cement austerity as a fiscal and social policy measure, but would likely dramatically improve private sector job and productivity performance. As demand picked up underutilised resources and resources (stuff and people, basically) shed from the public sector would find it easier to find work. It is an electoral nightmare for Labour.

However, it would dramatically improve the economy’s performance, so even the anti-Tory in me agrees with Britmouse when he says “Tories Should Embrace Nominal GDP Level Targeting.” In 1931 the UK blazed a trail by abandoning the gold standard and ending the Great Depression, in 2013 maybe we will get a chance to end the Little Depression and one last moment as a great power.


In the main shamelessly cribbed from Britmouse, here are some links to things other people have written.

The BBC lower the tone by getting confused: “Mark Carney suggests targeting economic output

Sky News Editor Ed Conway: “Why we all need to know about NGDP

Jeremy Warner at the Daily Telegraph: “It’s time the Old Lady was given more obvious growth objectives

Larry Elliot at the Guardian: “New Bank of England governor Mark Carney mulls end of inflation targets

Gavyn Davies at the FT: “Carney differs from Bank of England orthodoxy

Chris Giles and George Parker at the FT: “Treasury open to Carney radicalism

FT Editorial: “New broom clears way for Old Lady

Chris Giles again: “Osborne should heed Carney’s message

Faisal Islam, Channel 4: “Carney’s recent musing on UK jobs and housing bubbles


Dropping the Inflation Target? from Duncan Wheldon

Tories Should Embrace Nominal GDP Level Targeting from Britmouse

Monetary Policy Innovations from Simon Wren-Lewis

Mr. Osborne: “There is a lot of innovative stuff happening around the world” from Lars Christiensen

How soon is now, UK NGDP targeting edition from FT Alphaville

Filed under: Economics, , , , ,

How not to hire a central banker OR Are you fucking kidding me Cameron?

Perhaps the fourth most important job in the world is up for grabs. If you (*ahem*) want to be the UK’s chief central banker, the job is available – applications are due by 8th October to 1 Horse Guards Road, London. I say fourth most important because there are only three economies larger than the UK in the same depressed state: the US, Japan and the Eurozone. Unfortunately those doing the hiring have no idea how and why this job is important.

Why is this job so important? It is important because the central bank, to a large degree, determines how quickly we recover. If the bank keeps money tight we will recover very, very slowly, if it gets money right we will recover very, very quickly. I’ve decided to stop demanding loose money because that isn’t what I really want. Monetary policy should be set at the level that is predicted to produce the outcome you want, neither loose nor tight, but right.

For several years that is exactly what the Bank of England did. From mid-2004 to mid-2008 they set policy so that they expected 2% inflation in two years time. As this graph cribbed from Britmouse shows.

Since 2008 they have consistently set policy too tight to hit their target, that is, even by they own preferred metric they have been hamstringing the recovery. Money has been tight so growth has been slow. This makes the quality of the successor to Mervyn King very important indeed. Even doing his job properly would be an improvement on the Bank’s current practice.

I would argue that even this is not good enough. Someone who could do Mervyn King’s job well and set policy that is predicted to succeed, not fail as he has, will not get us the recover we need to put a million people back to work. We will remain depressed because inflation is a bad indicator of an economic recovery, much better is something like nominal GDP, which I have been going on about ad nauseum because people still don’t get it. (Click on the two graphs in the right of the blog for more info on this)

Below is a graph that shows the gap that has opened up between where the UK’s nominal GDP should be and where it is.

The economy wants to produce £1.7trn of goods and services a year, but tight money has restricted it to about 1.57trn of goods and services a year. £170 billion is what the UK economy is missing out on each and every year because our central bankers are not good enough at their jobs (nor currently authorised by the treasury) to bring us back to trend. The total loss currently totals around £500,000,000,000 or half a trillion pounds.

So what is a good central banker worth? Well, about £500,000,000,000 would be one answer, but bygones are bygones so lets be more constructive about it. A good central banker is one who closes that gap as quickly as possible. In the US they estimated that thier (bad) central bankers has cost their economy $4trn in lost output and will cost the economy another $4trn by 2018. A good central banker could be worth $4trn to them if they could return the economy to trend twice as quickly, which seems possible.

Lets copy the mechanism they employed here and makes some assumptions. First, a bad central banker closes that gap by 2018 during which the gap steadily closes. Second, a good one does it in half that time and the gap closes correspondingly until then. After a fairly convoluted process involving my half remembered A level maths I’ve decided that a bad central banker costs us a total of £500 billion in lost output, while a good one loses us “only” £250 billion in lost output. So doing this job correctly is worth perhaps a sixth of everything the UK can produce in a single year.

That they’re paying Sir Mervyn’s replacement a measly £307,792 a year suggests to me they aren’t taking things seriously enough. By our metric of good banker versus bad, they are only expecting an economist 0.0001% better than Mervyn King. Which might be setting the bar a little too low, even as a replacement for our worst central banker since the 1930s.

Of course, it being the coaltion, things are even worse than they at first appear. They aren’t even looking for an economist 0.0001% better than Mervyn King, they’re looking for a financial regulator. Read this paragraph and weep:

The successful candidate will have experience of working in, or with, a central bank or similar institution; or will have worked at the most senior level in a major bank or other financial institution. He or she will demonstrate strong leadership, management and policy skills; will have an advanced understanding of financial markets and good economic knowledge.  He or she will be a strong communicator, have good interpersonal skills and will be a person of undisputed integrity and standing.

Advanced knowledge of financial markets, but only “good” economic knowledge? Forgive me a moment, but are you fucking kidding me Cameron?

They don’t want a central banker, they want a financial regulator. A financial regulator needs to prevent fraud and ensure banks adhere to the rules laid out by parliament. A central bank is in charge of nominal demand because they issue currency. The two needn’t have anything to do with each other. Now that the Bank has to take on the FSA’s financial regulation duties they are going to let their other  responsibilities go by the wayside. Ignorance will damn us, not incompetence. As Scott Sumner has said of the 1930s, the last time we got things this wrong:

The elite bankers and financiers of Wall Street were pretty smart people.  So were the central bankers of the US, Britain, and France.  But they weren’t smart enough… So the wealthy conservatives of the interwar period who dominated central banking dug their own graves, and the graves of millions of others.  Not through greed but through ignorance.

This time is perhaps worse. At least in the 1930s people had a rough idea what a central bank was meant to do. Today, those in charge don’t know for which job they are hiring, so those who are hired won’t know what they’re meant to do, and the rest of us will all suffer for it.

This in’t because any of us deserve it or because those doing the hiring or being hired are necessarily bad people, but because life is hard and confusing sometimes. Everyone is finding it hard and confusing and this is why I keep shouting about this, because nobody needs to be evil to inflict suffering, just wrong. So we need to stop being wrong as quickly as possible.

Filed under: Economics, , , , , , ,

No, non, nein, όχι: Not good enough

I’ve heard some push back that we shouldn’t blame the Tories for this…

…or this…

…because we are facing a global recession because of this lot…


As Britmouse points out – in ever more virulent, desperate appeals to sanity – we have had exactly the recovery you would expect if aggregate demand had been very weak. Under Brown nominal demand grew only 1.3% a year versus a 5% trend growth rate. Under  Cameron and chuckles Osborne nominal demand has grown at a still anaemic 2.8% a year.

The Bank of England is in charge of demand in this country and it has used the Eurozone pursue a disinflationary policy which has seen inflation collapse even more quickly than the Bank expected. The Bank of England could do more, and they underline this fact at their regular meetings, but they are choosing not to do more.

So in a way yes, the weak recovery is a result of the Eurozone, but only because the Bank of England and central government have used the crisis to depress demand growth. Rather than push against the crisis with more expansionary policy the Bank has used these deflationary tailwinds to keep unemployment elevated and prices subdued.

The policy which is producing weak growth is also producing low bond yields. The low interest rates Cameron is paying is a vote of no confidence in his government from the bond market, they don’t believe growth will return for a very, very long time.

Something is rotten in the city, the Bank of England is not democratically accountable, people do not understand its remit well or the damage it is doing in the name of price stability. This is why the London Stock Exchange gets occupied, not Threadneedle street.

Filed under: Economics, Foreign Affairs, Politics, , , , , ,

Nota Banquero sounds a lot like Notenbanker

I’m very sympathetic to the idea that the peripheral Eurozone countries should cut loose and devalue their new currencies to regain competitiveness and aid recovery. Krugman here half-recommends a quick default and devalue solution for countries running a primary surplus (that is, only borrowing money to cover the interest payments of previous loans).

The basic logic is one which I adhere to. The European Central bank has caused a debt problem to be seriously exacerbated by an aggregate demand problem, a new national central bank in control of its own currency (Esnewdo etc.) could boost demand through an adequate devaluation.

But there is no guarantee that such a devaluation would be adequate, or that a new central bank would act aggressively enough. To a degree the newly empowered Central Bank would have no choice, markets would force it to devalue, but much commentary assumes they would also force the bank into the accommodative policy, this need not be so. Many countries have voluntarily maintained too tight monetary policy for too long.

The cult of the credible central banker would stay the hand of any newly independent central bank. The logical and sensible point that a central bank must not behave recklessly or unpredictably has been become a dogma. Modern central bankers have become overly concerned that any departures from fighting inflation could lead easily to inflation expectations becoming “unanchored“, potentially leading to hyperinflation.

The political pressure to boost demand for a periphery Central Bank with its own currency would be intense. But this would only intensify the professional and institutional pressure on Central Bankers to resist these calls to retain their “credibility”; Interest rates may remain too high, or the bank may signal its hawkishness at any sign of demand picking up.

Devaluation without a change in the culture and prescriptions of central banking could lead to the worst of all worlds for the peripheral countries of Europe. Their economy could remain depressed and uncompetitive due to central bank stubborness but their external burden would have increased because their national, or at least, private debts remain denominated in much more expensive Euros.

Many countries have the option of following the Swiss and Swedish in devaluing but so far the US, UK and Japan have all refused. Britain today ignores opportunities to increase demand using monetary stimulus just as we suffered all through the 1920s because we chose to overvalue our currency. I fear much of southern Europe could find itself in the same situation.

In addition to this cult of the central banker, it may be that Steve Randy Waldman is correct and that depression is a choice. He argues that because of demographic pressures interest rates are naturally quite low, and because there are lots of old people who live off fixed income there are institutional problems to getting enough stimulus because they fear their income will be inflated away.

The low interest rates make normal monetary policy hard and the political constituency make unconventional policy too difficult to employ. Hence nations, or currency zones, “choose” depression. Demographic pressures in Southern Europe are similar to those in Japan and the elderly are much more powerful in Italy than in the UK or the US where policy also remains too tight.

The combination of political constituencies who are threatened or think they are threatened by looser monetary policy and a cult which treats loose monetary policy as a dangerous barbiturate may mean that even an independent currency may not be enough to pull the periphery of Europe out of its doldrums. The institutional constraints which have helped create the current Eurozone crisis will outlive the euro and must be considered in any rescue plan.

Filed under: Economics, Foreign Affairs, , , , , , , , , , , , , ,

Osborne to the rescue?

Britmouse, otherwise a very informed commenter, makes the mistake of saying Britain would need a new parliamentary act to switch to a nominal GDP level targeting regime. Not so.

Here is the relevant section of the 1998 Bank of England Act:

11 Objectives

In relation to monetary policy, the objectives of the Bank of England shall be –

(a) to maintain price stability, and
(b) subject to that, to support the economic policy of Her Majesty’s Government, including its objectives for growth and employment.

12 Specifications of matters relevant to objectives

(1) The Treasury may by notice in writing to the Bank specify for the purposes of section 11 –

(a) what price stability is to be taken to consist of, or
(b) what the economic policy of Her Majesty’s Government is to be taken to be

The Treasury can, were George Osborne to be interested in re-election, switch to a nominal GDP targeting regime by only resorting to legislation which is already on the books. Defining the objective of the Bank of England as “to maintain price stability…including its objectives for growth and employment” is almost an exact layman’s description of NGDP level targeting.

If Britmouse means merely  that this decision would not be final, I agree, but no decision made by parliament is ever final. No Parliament may bind its successor. There is no way to forever adopt NGDP targeting, because no parliament can bind its successor. Mervyn King himself has written  (in a paper I will discuss when I get round it) that it doing so is likely impossible:

The core of the monetary policy problem is the uncertainty about future social decisions resulting from the impossibility and the undesirability of committing our successors to any given monetary policy strategy. The impossibility stems from the  observation that collective decisions cannot be enforced so that it is impossible to commit to future collective decisions. The undesirability reflects the fact that we cannot articulate all possible future states of the world.

There would be parliamentary fulminations were Osborne to announce an immediate change of policy, but a steep economic recovery would put pay to those. The British legal system is flexible, and by the time a legal challenge were mounted, if it ever were mounted, it would be easy to pass the Bill to formalise an already successful policy.

I don’t like Tory government, but I dislike this depression even more. The Tory have an almost foolproof re-election tool at their disposal, they should use it.

Filed under: Economics, Politics, , , ,

How to End this Depression!

Targeting the path of Nominal Gross Domestic Product (NGDP) is probably the most “fashionable” solution proposed for dragging the developed world’s economies out of depression. This post will refer to the UK, but lots more work has been done on the US from this perspective, particularly by Scott Sumner and David BeckworthBritmouse has blogged about NGDP from a UK perspective.

Real GDP is a proxy for our incomes adjusted for inflation, how well off we are. Nominal GDP is the same but refers to our incomes in cash terms. This nominal measure deviating from trend has been what has driven the wild swings in employment and production the developed world has seen since 2007.

NGDP matters because wages and debt are sticky.

Wages: NGDP can decrease if all other prices decrease with it, the relative prices between them will not change and apart from updating some menus nothing will have really changed. But it is incredibly hard to cut wages, look at the clustering of wage changes around zero in the below graph (via Paul Krugman). This means a decrease in NGDP relative to wages will throw people out of work as employers become unwilling to employ them at the prevailing nominal wage.

Debt: We care about what real resources we can consume but all our contracts are written in nominal terms. If I owe someone £10,000 then at some point I have to hand over some bits of paper, or packages of electrons, to someone for that amount. But, if NGDP grows below trend the total nominal size of the economy will be smaller than expected when I took out the debt, but the size of my debt will not. The real cost of my debt will have increased and this will work to depress the economy because this dynamic will affect a number of people.

If NGDP sinks below trend there are then at least two mechanisms which can act to depress an economy. [1] Has it sunk below trend? Yes it has.

Is off trend NGDP growth associated with weak real GDP growth? Yes it is.

Are changes from trend NGDP correlated with changes in employment? Yes they are.

That might be a little difficult to make out for some. So I zoomed in and inverted the unemployment figures. Are they correlated? Yes, and closely.

Let me tell you a story with a different ending to the one you know. The year 2007 began with NGDP growing to trend, and employment decreasing against the backdrop of international inflationary pressures and financial distress. NGDP reversed course and began to decline during the second quarter of 2007 as did employment, crucially this was before the Lehmann Brother’s bankruptcy and the ohmygodwereallgoingtodie stage of the financial crisis. Unemployment had already increased by nearly 200,000 after NGDP began declining but before the financial crisis began in earnest.

This doesn’t exhonerate any bankers, they put the Bank and Treasury in this position after all. But it does imply different priority for actions. Occupy Threadneedle Street, my friends, not the London Stock Exchange.

Scott Sumner and Ben Bernanke

Looking at the third graph you can see NGDP decline, recovery and stagnation correlating closely with decline, (mild) recovery and stagnation in UK employment. The Bank of England controls the country’s printing presses and hence the nominal economy and responsibility for this depression lies with the Monetary Policy Committee for doing too little to avert it and with the Treasury for doing so little to force them to do more.

In the UK and US the last couple of decades have seen NGDP grow at about 5% a year, and this nominal growth has been split between price increases and economic growth. In 2008 NGDP collapsed and we saw deflation, disinflation, and recession. To date NGDP has not yet recovered to trend, in fact it remains over 10% below trend – and this is our main problem.

Increase NGDP and employment, incomes and taxes would increase, many intractable problems would vanish (though many would not). There are risks and there are methodological problems, but there huge gains for everyone if they right policy is adopted and I want to do my part to try and make sure the right policy is adopted.


[1] Data from here, I’ve used basic prices to strip out the effect of VAT jumping up and down

Filed under: Economics, Foreign Affairs, History, Politics, Society, , , , , , , ,

When NGDP is Depressed, Employment is Depressed

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Increase NGDP, Put These People Back to Work

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