How did

10th September 2012

It used to be that the attitude to central bankers used to be similar to the one that the Victorians supposedly had to their children, that they should be seen but not heard. However in the credit crunch era there is a lot more interest in what individual central bankers have to say. Indeed at times financial markets hang on their every word which to my mind is unhealthy on three counts. Firstly has no-one heard of the dangers of insider trading? Secondly if you believe in democracy then you will be uncomfortable with unelected bodies having so much power. Thirdly, they have not used that power well as at best we are stagnating economically and on some measures actually deteriorating.

The Bank of England

An example of this is the Chief Economist of the Bank of England Spencer Dale who spoke at Trinity College Dublin (a lovely spot if you have never been there) on Saturday. Before we get to his latest speech let me remind you of the one he gave us just under two years ago which was titled "INFLATION,INFLATION,INFLATION". Here is the section which gives the thrust of Spencer's message:

"Has the MPC gone soft on inflation? Is this a conspiracy with the Government to deflate away some of its debt? The answer to both these questions is emphatically "No". The MPC remains as committed as ever to meeting the inflation target. It is our job to achieve the target and we are accountable to Parliament for doing so. To borrow from a phrase of a previous Prime Minister, ask me my three main priorities for monetary policy and I will tell you: inflation, inflation, inflation. Maintaining low and stable inflation is the best contribution that monetary policy can make to the long-term health and prosperity of our economy."

At the time I was reminded of this famous phrase from the play Hamlet "The lady doth protest too much, methinks." and evidence for this came from Spencer's own speech:

"CPI inflation has been above target for 41 out of the past 50 months."

How has he done since?

Since Spencer gave that speech inflation has been above target in every single month. Indeed in this month last year the officially targeted measure of Consumer Price Inflation or CPI hit an annual level of 5.2%. This has led me to wonder if we misunderstood Spencer and by "Inflation,inflation,inflation" he was indicating his enthusiasm for creating it! If we look at the Bank of England's latest inflation survey it seems that such views are rather widespread:

"Question 2c: Asked about expectations of inflation in the longer term, say in five years time, respondents gave a median answer of 3.1%, compared with 3.6% in May."

Whilst this is a better result than May's the inflation target is supposed to be 2%. And the median forecasts for this year and next at 3.2% and 2.8% are over target too.

So either Spencer was misleading us when he told us that inflation was his priority or he is not much good at controlling it. After all our economic performance has hardly been one to stoke inflationary fires has it?! Our economic output has flatlined since then.

Interestingly respondents seemed to have little faith in official inflation measures either:

"Question 1:  Asked to give the current rate of inflation, respondents gave a median answer of 4.1%, compared with 4.7% in May."

This compares to the latest CPI reading  of 2.6%

What does Spencer want to tell us now?

Obviously he has a problem as he has voted for more and more Quantitative Easing (although he did vote against the latest £50 billion top-up) which even the Bank of England website admits is a policy to increase inflation. So he raises something of a straw man:

"In part, this was driven by the well justified fears that the deep recession could lead to deflation. (By deflation he means negative inflation or what I can disinflation)."

"Well justified"? Really Spencer. Anybody unsure about this might like to consider the inflation data above again.

Still if you are a loose end for something to say you can always tell everyone that inflation is temporary:

"But over much of the past five years, the UK has been hit by a series of price level shocks, which should affect inflation only temporarily and which the MPC has chosen to look through."

It is hard to take the juxtaposition of "temporarily" and "five years" seriously. Indeed Spencer seriously loses the plot during this part of the speech as he then tells us this:

"That might suggest that policy should feedback from a forecast of medium-term inflation, once such price level effects have dropped out of the i
nflation calculation."

He has either forgotten or is choosing to ignore the fact that the inflation forecasts that he has signed off at the Bank of England (He is after all the Chief Economist) have been very poor. We may even go so far as to say that the inaccuracy has been so high that they can be labelled anti-forecasts. Only a fool would replace reality with these fantasies.

If we remind ourselves of the inflation attitudes survey above we see that if this is a plan -to manipulate the populations views of inflation- then it has failed.

Spencer is having something of a crisis of conscience

We get a section where Spencer agrees with the theme that I have been advocating since the beginning of the Quantitative Easing experiment began:

"In particular, if we thought weakness in both demand and supply were being driven by some other factor, perhaps related to our impaired financial system and the sustained period of tight credit conditions. In this case, further demand stimulus may run up against supply capacity relatively quickly and so largely result in higher inflation."

This has indeed been part of my argument and the evidence so far has backed this up. We have had higher inflation in spite of little extra economic output being generated. But of course this is very awkward for the policies that Spencer has voted for as it means that they were always unlikely to work. Accordingly he has to find things to blame.

The most extraordinary step into a fantasy world occurs when in a section covering "headwinds" to the economy, an apparently unexpected headwind is some of the inflation QE  was designed to produce. As Spencer travels further into his own fantasy world it is apparently "a silly argument" to criticise QE for not producing output gains as wihtout it then everything would have been worse. So this fantasy involves the weakest intellectual argument which is to stoke up fears and assert that otherwise in some unspecified reality we would have been worse off.

As Spencer does so he unwittingly confesses to a truth:

"in terms of the squeeze in households' real incomes"

He wishes to present this as something about of the blue whereas it is a consequence of the policies he has supported as the inflation which QE has driven has depressed real incomes.

A New Tack: The way to the exit?

Continue reading…


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