The flaws in Osborne’s ‘I told you so’ speech in Washington

UK Finance Minister George Osborne’s Washington ‘I told you so’ speech  has prompted a thorough going over of the issue of what the recovery in the UK does or does not prove regarding the Coalition’s ‘austerity’ fiscal policy, by Chris Giles, Jonathan Portes, and Simon Wren-Lewis.

I want to add one point to this.  One of the challenges for what Osborne calls the ‘fiscalist’ position [the position that it was tight fiscal policy that aggravated the recession, and that it was its gradual loosening that caused the recession to wane] is that they purportedly need to show that the pace of consolidation slackened, causing the subsequent pick up in growth.

Jonathan Portes’ patient review of the facts showed that indeed the pace of consolidation, measured by the speed at which the cyclically-adjusted, structural deficit falls, did indeed drop off, a bit.  So, if this were a correct challenge, Portes shows that it was met.

However, seen through the lens of a modern macro model, Osborne’s challenge to the ‘fiscalist’ position may be false.   We might guess that what happened in May 2010 was a switch between two fiscal rules, towards one that entailed a less generous use of deficits to counter recessions, and a lower average debt to GDP ratio.  When people in the economy realised that this switch was going to happen, and what it entailed [a process that probably began some time before the election, as it was clear that Labour were not going to hold on to power, but was not complete until well after it, when the fog cleared on Treasury plans], they cut back their own spending, say, anticipating higher taxes and lower disposable income.  However, as the rule was followed through, no further belt-tightening by the private-sector was needed.  Although taxes and spending were doing what they needed to do to bring about the lower [relative to Labour plans] final debt to GDP ratio, private sector spending did not need to adjust further on account of these plans being followed through.

Actually, in the language of these rules, one might argue that fiscal policy loosened relative to the first post-2010-election plans, as the time over which the deficit was to be closed was lengthened.  [A rules-based echo of the 'ever smaller fiscal shocks' hypothesis that Osborne puts in the mouth of the 'fiscalists'].  This actually works in favour of what Osborne called the ‘fiscalist’ position.  On account of this  loosening (relaxation of the pace of structural deficit elimination) one might expect some stimulus to private spending:  belts did not need to be as tight as consumers and firms had chosen to fasten them.  So consumers could treat themselves.

The key point here is that changes in the structural deficit may be anticipated to some extent, since they are pre-announced and part of an overall design [='rule'] so these changes don’t measure fiscal impulses or shocks whose effect we then go looking for in private sector spending.

The argument above has been drastically simplified [believe it or not] to make a point.

For instance, you might wonder at the notion that we should assume that the private sector understands government plans.  [Osborne has repeatedly tried to confuse and disempower his audience, not least in this latest speech, with his claims for austerity's supposed stimulus, or by denying that there was any change in plans].  Perhaps it took time to sink in, so each change in the structural deficit was felt like a new disruption to their own private plans.  If this were the case, then the Osborne challenge is less incorrect.  [But recall that Jonathan Portes answered it.]

Or, by contrast, perhaps we should think of the private sector as rational and sceptical;  never in the first place believing that Osborne would have the stomach to see such plans through to the extent announced.  In this case, the logic I sketched is still right, and the Osborne challenge is false.  So long as the private sector’s guess at the final path for fiscal outcomes [strictly speaking fiscal intentions] doesn’t change, no further readjustments in private spending plans would be needed.

The other big simplification is that there were lots of other things going on at the time.  Confidence in the UK [and around the world] was rescued by apprehending that the US fiscal stimulus was working, and that, bit by bit, the Eurozone authorities were getting to grips with their sovereign debt crisis, and that steps by the UK authorities to shore up the financial sector had worked and would hold.  It is possible [indeed surely most likely] that this is the dominant reason why growth recovered in the UK.  Even if the Osborne challenge to fiscalists were sound [that you can measure the extent of fiscal shocks by the profile of the structural deficit] their impact could easily be swamped by changes in demand induced by the private sector response to these global events.  This final appeal to the notion of the counterfactual might seem repetitive, but it seems appropriately repetitive, since George Osborne has so frequently try to abuse it.

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The BoE should follow the Fed and make its model downloadable and forecast judgements open to scrutiny

The Fed recently made its workhorse model FRB-US downloadable, with a dataset, code, everything you need to take a close look at what Governors say and what the staff have been doing for them.  The Bank of England should do the same.

Recently, they published a working paper which includes an equation listing for its new COMPASS model, and an account of how this model sits within the so-called ‘suite’ of models.  On the face of it, you might say ‘Great!  How generous and transparent of them!  What a forward-thinking helpful central bank!’

But, hang on a moment.

They publish the equation listing to set someone the challenge of coding the model up and solving it using their own software?  Why?  To the cynical it looks just like a device to make it look like they are being transparent, while hoping that no-one will find it worth the trouble.  And coding up the model and solving it is the easy part.  Then there is the difficulty of collecting all the data and following the complex data transformations used by the staff.  And then replicating the delicate steps used to estimate it.  And then figuring out the judgements that the MPC have layered on top of the model, derived from their own wisdom, or insights from the ‘suite’.  We’ve nothing to hide, they might say.  It’s all there.  Well, if not, why try to discourage people from checking?

I know that the BoE worries about making this code and data downloadable.  They worry about this leading to them assuming a software and data support role that they don’t want.  So what?  Of course the Bank should assist those who are to hold it to account.  They also worry that it poses operational risks [what if they cock it up?].   And they worry about the scrutiny of the forecast it would bring.  Wouldn’t disclosing the model and judgement just help those who want to make mischief make it?

These concerns are flimsy set against the many arguments for it.  Such a large public body  with so many important powers has to be held to account, and anything that can help that process is vital for the democratic process and for the credibility of policy itself.  If you doubt that, reflect for a moment that there are many occasions when it would serve the MPC well to layer on a heavy judgement to make it look like inflation is going to come back to target when their model’s say it is not.  Purely hypothetically:  imagine an economy seemingly stuck at the zero bound,with inflation drifting slowly below target.  Its models might say [as the Bank's New Keynesian model could well say] help!  Inflation is heading down to the liquidity trap steady-state and there is nothing but loose fiscal policy that will get us out of it!  The temptation to hide this with a healthy dose of judgement tweaking inflation firmly back towards target would be very hard to resist.

Further, it’s taxpayers ultimately that have funded the building of the model.  [Have a look:  it's there as a chunky few million quid in the BoE annual Reports].  It seems perverse to make them pay again to get any use out of it [by forcing them to fund their own efforts to replicate the BoE model].

Keeping the code, toolkit and data locked away is against the spirit of modern scientific ethics, contrary to the hints in the new BoE structure that aspires to prioritise research.  Journals now insist that researchers deposit data and code so that research can be replicated and challenged.  The BoE isn’t a journal.  But it is hoping it gets kudos from using this big beast of a DSGE model, and trumpets the beauty of its suite software, so it should allow others to scrutinise it to check just what this thing that cost so much is being used for.  If we had past vintages, we could take a close look at past miracles, like how the switch from one model [BEQM] to another [COMPASS] took place without a bobble or a quiver in the Inflation Report forecast profile.  [It's easy to hazard a guess:  the judgement is pivotal, and was modified to make sure that the signal from the model had little or no effect on the profile.]

Almost of all of the knowledge in the model has been lifted from research done by others outside the bank, in academia and in other central banks.  [DSGE models trace a lineage from Lucas, Kydland, Prescott, Christiano, Eichenbaum, Evans, Smets and Wouters.  The technology to estimate them comes from Kalman, Sargent, Sims, Schorfheide, Gibbs, Metropolis and Hastings].  The Bank has borrowed enthusiastically from free open source code libraries to hone its own toolkit for solving COMPASS and the other models.  It is odd that having taken so gladly, that it chooses to keep that toolkit from the community it relied on to produce it.

Having this transparency would be particularly important now.  The MPC is making a lot of its ability to manipulate expectations of future rates, via forward guidance.  This throws a particularly keen spotlight on the forecast.  The MPC is using what looks like a model of rational expectations:  a model in which agents inside the model can manipulate and compute its equilibrium.  This is somewhat ironic, since the BoE withholds the means for people to do just that!  Is it relying on the properties of RE for its estimates of the impact of forward guidance?  How has it dealt with the known pathologies of these models under fixed interest rates [the models frequently go haywire, unless arbitrarily fixed to stop it, generating alternatively massive inflations or deflations for small changes in the horizon at which rates are fixed].  Why rely on rational expectations in this case, embarking on a new policy, in novel economic circumstances, precisely those when this should be the worst possible approximation to how expectations would actually behave?  ‘Ah, we’ve dealt with all that with our wise judgements’, the MPC might say.  ‘We don’t take the model so literally.  It’s just one of many [indeed a suite] of sources of information.’  Well, to make sense of this, and to understand what this judgement is doing, we would need to know more about it.  Otherwise we might assume it’s all smoke, mirrors and bluff.

So, in short, the Bank should follow the Fed, make the code, dataset and software available.   Senior management in the Bank often complain at how lethargically the academic community engages with the issues that policymakers are grappling with.  These would be steps that could encourage such engagement.  Who knows, doing so might generate insights that the Bank’s economists could use that they would not otherwise get.

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The futility of hoping for a reset of finance’s ‘moral compass’

This post is prompted by reading in my twitter feed that Martin Wheatley of the UK’s Financial Conduct Authority had said that finance had ‘lost its moral compass’.  Sermonising like this is completely unhelpful in my view.

Almost all in every era in every field of activity were guided by self-interest.  I doubt that financiers of days gone by had more tender hearts.  Or that the £ signs light up any less fiercely in the eyes of non-finance business people.  All that differentiates business from finance is that the consequences of selfishness for the wider economy are less serious.  Business selfishness is less likely to lead to systemic fragility.  All that differentiates past financiers from those of today is the possibilities for money-making afforded by innovations (internet, credit scoring, securitisation), new clients (newly wealthy emerging market investors) and new regulations.  Financial leopards won’t change their spots.  So no moral compass now means none ever.

Campaigning for moral finance is a distraction from the task of actually doing something useful to prevent another crisis from happening;  like understanding what really caused the crisis [why the consequences of ubiquitous selfishness were so acute in finance], and what activities could be regulated and how.

How would you ever objectively measure financial morality anyway?  And who would ensure the moral compass of the moral compass inspectors?

Moral compass sermonising misses one of the key points about the crisis.  Let’s imagine that it culminated in one gigantic bank run.  It wasn’t all about retail banks, of course, but the other non-bank intermediaries perform very similar functions.  There came a point where everyone wanted to pull their money out because they thought (correctly) that everyone else did.  Suppose we could somehow persuade all these investors that when they cash in, they should give their entire wealth to charity [achieving a kind of Wheatlian moral bliss].  If they feared for their investment, they would still pull out, and bring the market/banks crashing down.  Because if they didn’t, they would not get their money back, and their hearts would bleed.   Resetting everyone’s moral compasses in this way would not stop runs.

I suppose you might say that if we could hard wire their compasses with an ‘after you’ instruction that would cure bank runs.  True.  But no-one is ever going to manage that.

To some extent, the damage is done.  It’s already de rigueur to try to stress how nice you are in your advertising if you are a financial services company and is a standard part of the PR budget.  Just as for other companies they have to spend to pretend to be greener than they are, or pretend to be cooler, or not to be advertising when they are, or to be selling stuff because they like it, or to be representing you in Parliament because they feel it is their calling [or to be blogging because they think it might be useful].

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Pensions reform: adverse selection, our future selves, and intergenerational risk sharing

The Government has announced plans to drop the requirement that pension holders be forced to purchase annuities when their pension plans mature.  This will have the positive benefit of allowing people to have more control over their savings, to be valued in a society predicated on allowing people as much self-determination as possible.  However, there are some downsides.

1.  It will allow people more control over their savings!  Annuities insure us against the uncertainty we face in predicting how long we are going to live without being able to or wanting to work to feed ourselves.  Peversely, annuities help in the unfortunate event that we live longer than we guessed we might, paying us the savings someone else accrued who lived less than they thought they might.  It is an insurance against risk that our future selves face.  Unfortunately, there is abundant evidence from the experimental and other empirical literature in behavioural economics and finance that we are i) terrible at paying proper attention to the wants of our future selves [usually neglecting them] and ii) terrible at responding rationally to risk.  Allowing us to make decisions for ourselves is therefore likely to lead to suffering.  Our present selves may love it, driving to retirement coffee mornings, or our self-funded Physics PhD, or going on cruises.  But our decrepid far future self will regret that, cowering without the heating on.  To the extent that we differ in how we neglect our future selves, there will be a subsidy going to the most stupid, who run out of money and fall back on the state for assistance.

2.  There is a risk of inducing adverse selection in the annuities market.  Adverse selection occurs because in a voluntary annuities market, insurers guess that those who knock on their doors for an annuity are those who know from the history of their relatives that they have a fair chance of getting one of those Telegrams from the monarch when you reach 100.  So they charge more for the service, anticipating having to pay out for longer.  And this thins out the customer base further, to those expecting to get into the Guinness Book of Records for longevity, and so on, until the market disappears.  Is that why the share prices of annuity providers dropped as the 2014 Budget was read out?

It’s not all bad, of course.

Annuity providers may be lazy through lack of competition, or capricious and sell people more insurance than they need, confusing people with a proliferation of hard to price options. [Perhaps that's why the share prices of annuity providers dropped as the 2014 Budget was read out!].  And we don’t all face the same amount of risk.  Single people face more of it than the married.  Spouses can agree to leave their money to the other, giving them a payout if they are unlucky enough to outlive them.  And some of us like risk.  Boris Johnson celebrated that people could become buy-to-letters.  Sure.  Provided we can pay someone to run it for us [remember we are thinking of a time when we can't work here] that would generate an annuity, just more risky, since it would rise and fall with changes in the relative yield on houses.

Another reason that private sector annuities are not the perfect solution, is that their providers, though they can, in principle, pool longevity risk across their customers [adverse selection aside], they cannot do anything about aggregate longevity risk.  Mervyn King’s British Academy lecture in 2004 documented the extraordinary increases in life expectancy that mounted through the 1970s, 1980s and 1990s, much of which took the industry by surprise, leading to hardship given the defined benefit based promises they had made with their customers.

The only way to deal with that risk is for the state to pool it across generations.  A generation that lives longer than forecast gets a handout through the Government borrowing, and future generations that live less than forecast pay out.  Intergenerational risk sharing of this sort is not radical.  It goes on the time.  That’s what Krugman, Wren-Lewis and the others urging much looser fiscal policy during the crisis were advocating.  Borrow now, and future generations can pay back.  We are sharing in the generational risk that crystallised in the form of the second world war.  (Well, thankfully only some of it.)  The Government borrowed to finance defeating the axis powers, on the understanding that baby-boomers and their children would foot some of the bill.

The difficulty with intergenerational sharing, of course, is that today’s generation can change its mind and not keep the bargain made for it, perhaps even before it was born.  In fact, if it suspects that some future generation might vote down the state pension just as it comes to draw it, why would today’s generation agree to pay taxes to fund today’s old?  We have a state pension, you might say, isn’t that evidence that the system works?  No, because it might be much higher if we could somehow constitutionally guarantee that it would never be ditched, so we would all share in its benefits, without worrying about selfish youngsters abolishing it just as we had got too tired to work.  The shift from defined benefit to defined contribution pensions amounts to a reduction in intergenerational risk-sharing, and reflects the difficulty of designing systems by which society can, in a time-consistent and predictable fashion, substitute for the private sector’s inability to do it.

Simply giving people the choice not to buy these private annuities isn’t a solution, of course.  That would have to be solved by either i) the state providing more than it does, or ii) equivalently, the government issuing ‘longevity bonds’, which annuity providers would buy.  These would be bonds that paid out more to their holders if life expectancy turned out greater than forecast, so the annuity provider holders could pass these on to the wizzened-old, record breaking wrinklies.  [And thanks to Dan Davies for reminding me that i) and ii) are in principal the same].

One of the cheers for the new reform was from the savers lobby.  In particular, I picked up tweets from Ros Altman, who rails constantly against the long period of low nominal interest rates, which she and others think have harmed savers.  So now, the government is doing something to compensate savers for that.  That is a silly argument.  For a start, savers’ livelihoods depend on the real rate.  But of course real rates have also been extremely low in recent years.  However, in the medium to long run, there is nothing governments can do about that rate.  It’s determined by growth, demography, things outside government control.  All governments can do is pool the risk across time periods in the way I described above.  So generations experiencing low real yields could justifiably claim against those who might get higher real returns.  The authorities can do something about the very short run real rate.  But if that were to be increased, by the central bank raising the nominal rate it controls, that would likely cause a huge, further, long-lasting recession and a collapse in asset values;  ultimately, savings returns are paid out of the returns of economic activity which would be devastated by the use of the nominal rate for anything other than inducing inflation and output gap stability.

[Update:  see also Simon Wren Lewis' post on this topic.  In particular, he fills in a gap I left by pointing out that it's not just the stupid who would end up falling back on state annuities, failing to save enough for themselves, but the calculating, since they would calculate that the government would back down and help them out.]

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Adam Posen is wrong to suggest the BoE has been cosying up to the Banks

In a recent interview with Reuters, Adam Posen hit out at the Bank for having cosied up to the Banks, implicating the post-crisis Mervyn King leadership in that, and therefore urging on Carney’s efforts to bring about cultural transformation.

I thought his comments gave quite a misleading view of what has been going on at the Bank, and missed the big picture.  Readers of this blog will know that I am always up for some BoE kicking with my tired, long-serving boots, but only when it’s deserved.  But on this occasion I feel obliged to push back on Posen’s comments.

In a twitter exchange with him Adam said [sic] that King’s rhetoric was sincere, it had not translated into concrete policy action.

Well, here are some examples, most of which I tweeted already, but written up here for completeness.

First, I’d cite Mervyn King’s moral hazard lecture in the Summer of 2007.  This wagged a disapproving finger at banks who had adopted aggressive funding and lending strategies, arguing that it would be a betrayal of those that hadn’t for the BoE to extend its hand of support.  In fact Mervyn was widely criticised for this lecture, for it seemed not to foresee the systemic nature of the problem, and even aggravate it.  That’s contestable.  But it certainly was not cosy, and it translated into a concrete policy of not offering help that wasn’t deserved (in Mervyn’s opinion).

Second, you could cite the surge in interbank rates in September 2007, which the Bank allowed to happen, when it could, had it chosen, relaxed its Sterling Monetary Framework.  That had the effect of being decidedly uncosy.  Although it’s arguable that that happened because of neglect and lack of foresight than any conscious policy to be harsh to banks who were short.

Third, what about the operation of the Bank’s Special Resolution Unit?  How uncosy can you get?

Fourth, I’d cite the extremely conservative nature of Quantitative Easing.  Mervyn King and the other Executive Team members were dead set against large scale private asset purchases, which could have involved relieving Banks of troubled assets, or purchases of Bank bonds, or bonds of firms that banks were exposed to.  Instead, while operating a piddlingly small corporate paper purchasing scheme, the Bank bought only gilts.  That’s not cosying up to banks.

Fifth, one must presume that the analysis and rhetoric of Mervyn King and Andrew Haldane, enumerating the vast implied public subsidy in historic funding rates for the banks on account of too big to fail, and arguing for very conservative capital regulations, and making the case for narrowing the allowable scope of bank investments, had some influence on the Banking Commission report led by John Vickers.

Sixth, would you describe Mervyn King’s involvement in the deposing of Bob Diamond as cosy?

Seventh, I would list the determination of Mervyn and Andrew Bailey to instigate a new supervision model that involved less box-ticking by junior staff, and more big picture judgements on the overall health and competence of a bank, by more senior staff.  That’s not cosiness either.  That was an analysis of how the FSA failed to turn the screw on the banks, and how they were going to put it right.  You can argue about whether it was the right diagnosis, but there was one, and the objective was very clear.

Eighth, Adam forgets the war that broke out between Vince Cable and the PRA/FPC over the latter’s demands that banks improve their capital positions quickly.  Vince was more concerned that the Banks should be allowed to extend themselves and lend regardless.  Leave aside who was right, but those under the auspices of the BoE were not cosying up to the Banks.

Ninth, one could think about the very long lag between the onset of the crisis and the beginning of Funding for Lending as being indicative of a reluctance to be cosy to the Banks.  Emphasised too by the careful design of the scheme to stop banks gaming it.

Tenth, note the determination of the BoE to wind up the Special Liquidity Scheme, despite warnings that Banks would face a possible ‘funding cliff’.  That was seen through.  No cosiness.

Eleventh, I’d cite the clean bill of health given in the external report by Ian Plenderleith on the Bank’s Emergency Loan Assistance during the crisis.  You might scoff that Ian was a former BoE employee.  But his legacy would have been in tatters if he had let the Bank off the hook, so his incentives were very clear.

Adam’s remarks aren’t without provocation, most recently the yet to be determined nature of BoE involvement in foreign exchange fixing, if that’s what it was.  But we have to put this unresolved issue in perspective.  The Executive Team’s messaging was frequently hostile to Banks, articulating the tragedy they had inflicted on the economy, and what had to be done to rein them in, and that culture transmitted itself around the institution.

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One big hubristic consultancy jargon firework display

That was my reaction to the Mais lecture.    As well as seeming to me to be what the title of this post suggests, the relaunch was at the same time surprisingly, and almost unreadably dull, plodding through several management cliches about Oneness and synergies.  And it was quite an anti-climax, after the extraordinary step of the high-profile employment of McKinsey.

Despite the grandiose theme of Bank Oneness, the changes seemed, plausibly, to have quite different imperatives.

For example.

Spencer Dale and Andy Haldane swap jobs.  Imperative (1)  eliminating conflict between Carney and Haldane over how to deliver financial stability.  Imperative (2) stemming the momentum Haldane had built as the pre-eminent BoE thinker on financial stability.  An achievement that can’t be allowed to overshadow or complicate Carney’s role as Chair of the Financial Stability Board.  Imperative (3):  these are the only jobs either of them would accept without leaving having lost out to Ben Broadbent/John Cunliffe respectively.  Imperative (4):  it solves the problem of both  not having to work for (one presumes) their fellow competitors for those DG jobs.

Re-create the old International Division which existed pre-1994.  [No mention of that historical echo in the fanfare].  Imperative:  giving the new Deputy Governor Shafiq another directorate to make the job bigger.

Paul Fisher dropped from the MPC.  Imperative:  ease possible tensions with the incoming Nemat Shafiq, so she doesn’t have to experience his disappointment at not getting that job, and he doesn’t have to experience her thinking he is disappointed.  And it’s pre-emptive action in case Forexgate implicates him, though it has not yet.

Orchestrate ‘single research agenda’.  Imperative (1):  makes the job of the Executive Director for the old Monetary Analysis directorate feel a bit bigger again to make up for having the international economics division chopped out.  Imperative (2):  it adds to the oneness of it all, doesn’t it?

Shafiq to be charged with executing exit from QE.  Imperative:  make her job look even bigger.  Reality:  it’s just a restatement of what would have been the task of the markets directorate anyway.  MPC will decide when to unwind QE.  [Barring another heist by the BoE executive, mirroring the one at the launch of QE excluding them from an input into what to buy].  When they do unwind, that directorate would have always had the hair-raising task of flogging all those gilts.   Thinking about it, why weren’t the other DGs also charged with similarly sounding grand challenges?  Those challenges are certainly there.  Ben Broadbent presumably has to chart a course back to neutral interest rates.  And Spencer Dale will have to help Jon Cunliffe figure out which lever to pull to choke off the housing boom.

All of the above:  ensure no-one who was an ancien regime appointee benefits.  Imperative:  Mark Carney was appointed because the old regime was judged to be bad, (otherwise they would have got Paul Tucker in), so, to follow that through, anyone associated with the old regime is bad or has to be sidelined to underscore the overall purpose and reality of regime change.

Perhaps that is too much conspiracy-theorising.  But, at least one could interpret the changes as following definite purposes, rather than in pursuit of an MBA-style case-study set to students in a hurry.  And, remember, Mark Carney is in a hurry.  Soon a year of his shortened 5 year term will be gone.  A couple of years more, and he will be in campaign mode, charting his course back to a senior Government role in Canada, needing a shake-up of the BoE on his cv to justify the overseas venture.

The continued emphasis on oneness was perplexing.

The Bank embraces two separate policy committees, the Monetary Policy Committee and the Financial Policy Committee, charged with separate tasks, but where discharge of the one affects the performance of the other.  The objective of the MPC is in principle clear, though MPC choose not to make it so, or, if they have (since I left) they keep that to themselves.  The objective of the FPC is not even clear in principle.  (That’s no-one’s fault).  Despite the fact that the Committees themselves probably don’t know precisely what they are doing, nor have tried to figure out how they might systematise and share their reaction functions, we are to suppose that emphasising the Oneness of the Bank by, say, pulling together divisions with an international focus, and swapping two Executive Directors, is going to sort it all out!

Those Committees have different timetables, different agendas (one still has to work out what it’s doing and how it’s going to do it), different personalities with different expertises.  They are going to want very different things from their suppliers in the Bank and there’s no amount of declared oneness that will get around that.  If the Bank wants supervisory excellence in the PRA, what would this oneness mean to someone who cultivates that through a lifetime of study in financial law and balance sheets, but sees others spending their lifetime cranking DSGE models? They might slurp the same custard on their BoE canteen spotted-dick pudding, but they will not be as One.

The BoE is becoming more like its old self, before the reorganisation into two ‘wings’ after a senior management meeting to decide it all at a hotel in Ashridge in 1994.  ‘International Divisions’ then was carved up between those studying the international economies through trade-linkages, and those looking at international financial exposures of UK financial institutions.  I was oblivious to what was really going on there,  too young to know anything or even care if I had, but the received wisdom was that this was an area that had assumed its own amorphous purposes that didn’t even overlap with the Bank’s, often much work done for the Foreign and Commonwealth Office, and uncosted.  Today’s bank is very different, with two identifiable clients.  So I doubt that the new directorate will sink into the (alleged) ways of the pre-1994 version.  But it might still cause problems.  For example, a decision about how to model the world economy in the MPC’s forecasting model could be made by the Chief Economist [executive director for monetary analysis].  Now that can’t happen.  The international division can say ‘sorry, got too much global linkages and synergy stuff to focus on’.  The higher up the joining of reporting lines between directorates that need to share and collaborate, the less likely they are to do it, and the more likely they are to cultivate independent capacities to substitute for their failing collaborator.

Interestingly, there’s the item of giving the Chief Economist the task of realising a ‘single research agenda’.  In the old days, ‘Chief Economist’ was a misnomer, because Spencer Dale was, for example, not ‘chief’ of the economists in Financial Stability, who numbered roughly as many as those directly under his charge.  Now, the title is to be given some meaning.  But what a meaning!  How could there be a single research agenda?  There are many, distinct policy problems begging questions of research.  What does it really mean that there would be a single agenda?  That all the questions would be written down on a single piece of paper, owned by Andy Haldane?  Would this be a single agenda with as many sub-agendas reflecting the different research going on currently?  Research is in a state of crisis in the Bank, as I blogged about previously, because terms and conditions are so difficult relative to the alternatives, and despite the best efforts and new initiatives of senior management.  I wonder how the motivation of researchers is going to be sustained while this ‘singleness’ is enforced.  Singleness sounds like more top-down management and determination of what will and will not be researched.  That would subtract from the meaningfulness of the researchers’ roles themselves, making them even more likely to leave.    What is going to be offered to compensate for future ‘singleness’?

One of the silliest aspects of the day was Carney’s suggestion that we might not have had such an acute crisis or subsequent contraction [we might have had more 'Canadian' 'outcomes'] if this model of the Bank had been in place in the 2000s.  This comment was made in the Q and A, so if it was a slip, it is one that can quickly be put right, but hasn’t yet.  If it wasn’t a slip, well, how absurd.

Everyone surely recognises that Canadian outcomes for banks and the Canadian economy were achieved (i) because there was a fortuitous ‘backwardness’ in Canadian banking.  That word in quotes because of course the conservative funding and lending practices turned out to be better than ours.  Fortuitous because those practices derived at least as much from lack of competition as from financial or regulatory wisdom.  And (ii) outcomes were ‘Canadian’ because of the massive commodities windfall experienced as the emerging market economies bid up the price of their raw material exports.  It’s not surprising that they did ok.  Their private sector was getting rapidly richer, and the banks lending to them had no fear for their loan books.  Did this have anything to do with how the Bank of Canada was structured, or Mark Carney’s contribution in his short stay as Governor?  It seems to invite ridicule to suggest this, but that is what Carney’s words did suggest.  His staff will surely see this hubristic claim for what it is.  And that will inevitably weaken the credibility of the senior management team in the Bank in realising the structural change and the ‘oneness’ in the new culture that is sought after, making it less likely to happen.

Most major changes in the Bank in the past seemed to have been driven by clear and grand ideas.  1992:  (inflation targeting) target the thing you care about, and people will believe you care about it.  1994 (Ashridge)  people who work for the Bank should be working for the Bank!  1997:  (independence) take monetary policy out of politicians hands;  (FSA) supervision is too much for one institution to do, and mistakes in the one make others needlessly culpable.  2012 (PRA);  true enough, but separation loses too much expertise and nimbleness in a crisis;  (FPC)  we need macro pru, and more accountability in financial policy.  The sad thing about this latest set of changes is that it is not driven by any clear economic or institutional ideas.  Except the false one that shuffling a few chairs around would have enabled the BoE to see what almost all the rest of the economics and finance profession failed to.

Reflecting on this with an old contact, it was put to me:  “in true BoE style everyone will now either ignore it or interpret it in a way that suits them best.”

In fact, there’s not a lot to what’s been done so far, and if no more is done, then it will be easy to ignore.  To dig out another cliche to add to those in the Mais lecture, the devil will be in the detail.

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BoE Strategic Review. The Bank’s regional agencies and the Centre for Central Banking Studies

Looking a little closer at the institution, and what might be ripe for ‘Review’.

The first thing that comes to mind is the Bank’s Centre for Central Banking Studies [CCBS].  This is a Division of 5-10 economists, including management, and some support staff, contracting in help from elsewhere in the institution, that delivers training courses in economics and finance to other central bank staff, predominantly those from developing or transition economies.  The CCBS attracts great people, partly because it offers a quasi-academic life for those working there, removed from the hurly-burly of the policy work, instead teaching, traveling, and offering time for research that is less directed.  Many of the Bank’s most talented and disgruntled researchers have found a home here, and been managed sympathetically, often in the interim few years before these individuals exit into a university.

What’s wrong?  Well, CCBS I would guess, historically derives from the UK’s ex colonial role.  Why is the Bank taking upon itself to spend money delivering courses to foreign central bankers?  Especially when – if you accept my jaundiced view that technical skills of the Bank’s own employees are neglected – there is a training problem at home?  Many CCBS courses are open to BoE staffers, but the vast majority of the effort is directed at this foreign aid function.  As such, this does not strike me as a core part of the central bank business.  Foreign aid decisions should be taken elsewhere, consciously, not opaquely inside the central bank.  At a time when the core policy functions are short of technical resources, it makes no sense to me to fritter them away on teaching others.

A second function that deserves scrutiny is the Bank’s network of regional agencies.  In days gone by, these were fully functioning offices immersed in note distribution and many of the core businesses of a paper-based central bank.  Now, they are slimmed down operations with Agents and deputies visiting scores of contacts in business, and coordinating the regular visits of MPC and Executive Team members.  Sounds good, no?  These visits serve two purposes.  The first is regular PR.  The Bank is shown to have a listening ear to business’ concerns.  The second is intelligence gathering.  The interviews and conversations are ‘scored’ and aggregated and stories taken back to the regular monthly briefing meetings for MPC.

OK, first comment.  The intelligence gathering is done by mid to late-career staff most of whom have never worked as an economist or statistician, and none of whom are professional survey researchers.  If this intelligence is important, then the lack of science applied to the process – compared to other bodies who do the same job, and compared to the care taken in other bits of the Bank’s economics analysis – is inexplicable.  Sampling is haphazard and unscientific.  Those compiling the Labour Force Survey or working in YouGov would wonder that the staple of stratified random sampling is ignored.  Even with such science applied, as, with, say the LFS unemployment numbers, the result is a noisy signal on true unemployment, but where we understand the noise.  The Bank’s Agency material is nowhere near even that, and there is no hope to understand the noise.  Moreover, the quality of the data is impoverished further by the fact that the design of the questions posed themselves is done by amateurs, neglecting another few decades of expertise accumulated by professional survey researchers.

It used to amuse me to hear MPC members regularly asked what they thought the most important information they encountered in the course of their briefing, and to a person they would always point to the information from the Agents.  This was pure politically correct PR, to present themselves as listening kind of people, not vicious rate-hikers indifferent to the plight of business.  And it was incongruous with the way they used to behave with the Bank’s Agents themselves, who, charged with delivering the murky results of their ‘surveys’, and often uncomfortable with formal statistical analysis, would regularly be torn apart by MPC members looking for sport.  I recall one butting in:  ‘Excuse me : do you mean the rate of change, or the rate of change of the rate of change, or the rate of change of the rate of change of the rate of change?’  [with scarcely concealed irony].

The Bank has managed to professionalise this activity somewhat over the years, and the Agencies themselves are in a continual mode of cost cutting, cramming themselves into ever leaner premises.  But.  The basic philosophy of intelligence gathering is still amateur.  My suggestion:  open this function up for Review and consider intelligence gathering by outside, contracted survey professionals.  Mixing intelligence gathering with PR makes for bad intelligence.

What about the PR?  Well, here, personally, it makes me queasy that money is handed out on such a large-scale for an essentially PR function.  Can’t public bodies just do their job at minimum cost, and avoid spending cash on persuading us what a great lot they are?  The modern era seems to suggest not, and most public services have improved at the same time as their providers have got in our faces about their loveliness.  So there is clearly correlation.  Perhaps PR does help.  If we have to have it, though, why skew so much of it to these invisible one-on-one meetings with businesses?  Or private dinners?  What proportion of these visits involve a meeting with the workers?  If PR is the purpose, why not spend time visiting other public bodies?  The impression got is of the Old Bank, cozying up to men in suits who make the money, in private, so that they can quietly reassure them that the Bank is working in their interests.  And if we have to have PR, the Bank should call it that, and then add it to all the other money it spends [on its education program, the website, other media activities] so we can take a look and ask whether that’s a sensible proportion of the seigniorage to spend, or whether more of the money could be remitted back to the Treasury.

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