The Bank of England has been trying to clarify what it was doing when it launched its policy of forward guidance, committing not to think about tightening monetary policy until unemployment fell to 7% (provided….). The fog is lifting somewhat, but lots of questions and puzzles remain.
Charles Bean spoke at Jackson Hole, saying pointedly that forward guidance in the UK was NOT about injecting more stimulus by holding rates lower for longer and causing an inflation overshoot. He gave two reasons. One referred to past, above target inflation, and translated as implying that more stimulus was not needed. I agree with that. But I find it hard to square that language with Carney’s at the Inflation Report press conference when the policy was first launched.
Also, one could nit-pick here. Forward guidance was aimed at making sure that interest rates were forecast to be lower for longer than markets would have counterfactually forecast them to. And one might presume that markets would forecast how and when MPC would raise rates based on how they have responded to movements in inflation and unemployment in the past. That sounds pretty Woodfordian to me. For Bean’s comment to be consistent, the MPC judgement must have been this: once rates were freed from the zero bound, MPC would respond as they normally had. For some reason markets were either i) forecasting that they would become more inflation-nutter-like than they had previously been (for no apparent reason) or ii) taking a more optimistic view of the conjuncture than they were. ii) seems more plausible than i) to me. Particularly if one recalls that the MPC were judging the pick up in the inference about demand to be reflected perfectly in an equal, and therefore inflation-neutral, pick up in supply. Though Bean and his colleagues seem to feel the need to stress i) instead. (There has not been an equivalent campaign to clarify that the MPC’s view of the conjuncture is less benign than the markets’).
A second reason Charles Bean gave as to why forward guidance was not of the Woodfordian type referred to the fact that the MPC could not bind its future members. (So there was no point in trying). I found this puzzling. The commitment just made requires committing its future members. John Cunliffe will take over from Paul Tucker. Mr Bean himself will probably sign off in June 2014 when his current term expires, before MPC are forecasting that unemployment will hit 7%. Ben Broadbent’s term is up in May 2014, and is Paul Fisher’s. Potentially, there might be four new MPC members who didn’t vote for forward guidance who one would have to take as pre-committed. (And of course there is nothing stopping an MPC member going back on the agreement, nothing except words). So in fact MPC’s ‘inject no more stimulus’ forward guidance policy IS like Woodford’s in respect of requiring commitment from individuals who might not be able to offer it.
Spencer Dale and James Talbot [Head of the Bank’s Monetary Assessment and Strategy Division, instrumental in preparing the analysis of forward guidance for the MPC] write on behalf of the Bank in a VOXEU column. In this piece, and in that by Charles Bean, mention is made that ‘more effective’ refers in part to reducing uncertainty. This risks confusing the ‘no more stimulus’ message. Indeed Mark Carney seems to have persuaded the entire media that forward guidance was about trying to kick start the recovery, a central plank of which was the extra spending that would come with being confident that interest rates were not going to rise. To be consistent with the ‘no more stimulus’ message, MPC would have had to tighten somewhat to offset the stimulatory effects of reducing unemployment. No mention is made of this. Is the uncertainty effect calculated to be too small to warrant any compensating tightening? [More on this in another post.]
Also potentially confusing is the phrase in the Dale-Talbot piece that refers to forward guidance as enabling MPC to ‘explore the scope for economic expansion without putting price or financial stability at risk’. This phrase is totally mysterious. What does it mean to ‘explore the scope for economic expansion’? Elsewhere in this text and Bean’s we are getting the new message that no more stimulus was intended. But ‘explore the scope for economic expansion’ is easily read as ‘have a bit more of a go at further economic expansion, more confident now than before that we can do this without overdoing it, in particular that that’s how others will see it since we have these knockout clauses’. Whatever it means, why does forward guidance help them do it? Suppose it simply means ‘continue with the already very stimulative monetary policy so that we stimulate demand as much as we can without generating too much inflation’. Why does explaining what will happen to future rates, and the knockout, help? Since policy is not meant to be any more expansionary, the help guidance gives must simply be in the knockout clauses. Before, we can infer, there was a risk that the (similarly) stimulative policy plan would put price or financial stability at risk. Now guidance enables the MPC to ‘explore the scope for economic expansion’ (translate do what it was doing before) more confident than before that the punch-bowl will be removed if things get out of hand. This all seems to hang together too, but it doesn’t match the rest of the stories about forward guidance.
For me ‘explore the scope for economic expansion’ is confusing jargon. It sounds like a text thrown in the direction of the doves (by a hawk), in particular at Mark Carney, that sounds a little stimulatory, but nevertheless stays within the ‘no more stimulus’ rubric set out by Charles Bean.
The common message from both the Bean and Dale texts is that no more stimulus was intended. If that was the case, then presumably Bean and Dale must view the Carney press conference launch a total failure. Carney was careful to use the ‘more effective’ language. But almost everything else he said subsequently was calculated to direct observers to the ‘more stimulus’ conclusion.