Treasury Committee
Oral evidence: Bank of England August 2016 Inflation Report, HC 643
Wednesday 7 September 2016
Ordered by the House of Commons to be published on 9 September 2016.
Members present: Mr Andrew Tyrie (Chair); Mr Steve Baker; Helen Goodman; Stephen Hammond; John Mann; Chris Philp; Mr Jacob Rees‑Mogg; Rachel Reeves; Wes Streeting.
Questions 1 - 104
Witnesses
I: Dr Mark Carney, Governor, Bank of England; Sir Jon Cunliffe, Deputy Governor, Financial Stability, Bank of England; Professor Kristin Forbes, Member of the Monetary Policy Committee, Bank of England; and Dr Gertjan Vlieghe, Member of the Monetary Policy Committee, Bank of England.
Witnesses: Dr Mark Carney, Sir Jon Cunliffe, Professor Kristin Forbes and Dr Gertjan Vlieghe.
Chair: Thank you very much for coming to see us today, MPC and Governor, all four of you. There have been quite a few developments over the summer and we need to take a close look at those. There have also been a number of allegations about the role of the Governor in the referendum, and it would be helpful if we began by examining that charge sheet and giving you a full opportunity to answer those allegations.
There are two main ones. The first is that you over‑egged the warnings about the economic effects of Brexit, especially the shock effect. Except for devaluation, which some might say is a good idea anyway, there has not been that much shift, or at least the jury is out. The second allegation is that you possibly sought to justify those dire warnings made before 23 June by encouraging an overreaction after it. That entails an examination of the measures in some detail. I am not going to express a view on either of those myself, but I am going to bring in colleagues who have thought and spoken about this right at the start.
Q1 Mr Rees-Mogg: Good afternoon and thank you for coming. Governor, in the light of the economic data that are now available, though they may only be straws in wind at this stage, how happy are you with the accuracy of the comments that you and the Bank made prior to the referendum?
Dr Carney: In the light of all of the events since the referendum and the evening of the 23rd, I am absolutely serene about the judgments made by both the MPC and the FPC. More specifically, the market events and liquidity pressures that were met because of contingency measures that we had taken in response to the judgments of the Financial Policy Committee absolutely validated the steps that we and other central banks and authorities around the world had taken in action.
In terms of the broad swath of data and how the economy has responded, what has happened directionally on business investment and commercial real estate, and the bigger decisions relative to the resilience of the consumer sector, I feel comfortable with the judgment of this committee, individually and collectively, that the referendum represented a risk to monetary policy—in other words, a risk to the stance of monetary policy.
I feel absolutely comfortable in the decision that I supported, and that the committee took in August, to supply monetary policy stimulus. As you know, in May and early June the orientation of the committee on average, though not everyone, and certainly my own orientation was that, with a different outcome, in terms of the stance of monetary policy narrowly—I am not talking about the long‑term economic prospects of the country—the next move would likely have been a raising of interest rates, not imminently but over time in a limited and gradual manner.
I certainly welcome the signs of stabilisation in the economy, and I am sure that we will have an opportunity to go into some detail and provide some deeper perspective on those signs and what they mean.
Q2 Mr Rees-Mogg: Is it worth looking at some of the things that were said before the referendum to see how they have come out in the end? The MPC May inflation report was concerned about falls in the UK’s financial asset prices that would “raise funding costs for banks and, therefore, interest rates on UK household and corporate borrowing. That, in turn, would tend to depress the prices of non-financial assets such as real estate. The combination of tighter financial conditions and reductions in the value of collateral against which companies and households can borrow would tend to reduce aggregate demand.” Is there evidence that any of this has happened so far?
Dr Carney: Well, the evidence goes both ways. There certainly has been pressure in the commercial real estate sector; it is most evident in the scale of transactions in commercial real estate. We saw a manifestation of that in closed‑end property funds, but let us focus on the market as a whole, where the volume of transactions has been more than cut in half since the start of the year, which intensified in the run‑up to and post‑referendum. That is one of the things against which we are responding in order to ensure that the overall financial conditions are supportive and lean against these forces.
One of the questions in advance of the referendum—we had a discussion around this committee, which was very clearly detailed in the May Inflation Report and other comments—was about what would happen to the exchange rate, the balance of the effects on demand, the exchange rate and ultimately supply in the economy; how those three factors would play out and what that would mean for the appropriate stance of monetary policy. There were scenarios where the combination of exchange rate demand and supply effects could have led to either no action on or a tightening of monetary policy. An extreme variant of that scenario was the stress test that the Bank had conducted in 2014. Ex ante, one cannot make a direct judgment on exactly how that would have performed. In fact, I would argue that the movement of the exchange rate cannot be disconnected from how well, or not, the contingency measures that the Bank had put in place proved.
Sir Jon is also a member of the FPC and shares in these responsibilities. In our judgment, the quite extraordinary efforts that we put in place in advance for the core of banking system, in terms of agreements, protocols and understanding with fellow major central banks around the world, helped ensure that what was a surprise to financial markets—although it may not have been a surprise to you—passed smoothly in terms of the functioning of the financial system.
The point is that that allowed us not to have an overshoot, or it did not propagate an overshoot, in the exchange rate. It put us as the Monetary Policy Committee in a position, if we judged it appropriate, to provide stimulus, which could net‑ease financial conditions and support the housing market, the commercial real estate market and business investment. Although, on the margin, a few moves in the basis points of the Bank rate are not going to be the determining factor for business investment in this broader environment, it allowed us to do all of that and to support, cushion and help this economy adjust.
Again, I will go back to my answer to your first question, which is that I am quite comfortable with the analysis and preparation we did in advance and the effectiveness of the contingency measures, all of which put us in a position to help this economy adjust and to help make—if I can bring it back to the issue that is at the heart of the referendum—the leaving of the European Union a success as quickly as possible.
Chair: Those were two very interesting replies. They were quite lengthy. If you are able by some means to make them a little crisper, we will be very grateful and it will mean that perhaps we can get away after a couple of hours.
Dr Carney: The questions are quite sweeping, so I thought that they merited a fulsome reply.
Chair: There is something in that too.
Q3 Mr Rees-Mogg: The replies are very interesting, because you are saying that the reason there have not been the dire financial circumstances that the Bank warned about is because the Bank has been so clever. If the Bank knew that it was going to be so clever, then the dire financial warnings were not necessary, were they?
Dr Carney: There are two things. One is: what is dire? From a monetary policy perspective, we said that there was the prospect of a material slowing in growth and a notable rise in inflation. I have lived through many business cycles, events, crises and hits; that is not dire. A slowing in growth, or growth going from a clip that is consistent with the speed limit of the economy to something slower, is not dire. That is not a deep recession—that is not what we said—and nor is a notable rise in inflation.
However, the issue that we needed to get across in our judgment was that this was not automatic. It required preparations to be made, and even with the best preparations you cannot guarantee these outcomes. We felt that we had to make considerable preparations in order to pre‑position £250 billion of borrowing capacity and more than that of collateral in order to put in place major liquidity facilities, to put in place these protocols with other central banks, to give us the flexibility to do what was in the best interests of the economy.
Q4 Mr Rees-Mogg: You mentioned commercial property transactions, which have been weaker, but the stock markets and residential property prices both seem to have held up very well. Are you saying that those have only held up because of the actions of the Bank of England?
Dr Carney: No. I would say a couple of things: first, initially and for some time, financial asset prices, equity prices, make a distinction. You are an asset manager; you know the difference. Internationally oriented companies, which represent the preponderance or at least half of the FTSE are effectively priced in foreign currency and so are re‑priced when the pound depreciates. That is the market going up, but it is not going up in real terms. You will accept that point.
UK‑focused companies were hit much harder. Subsequent to a few things happening—us making it clear that there would be no tightening in financial conditions, in terms of availability of credit—the action that the FPC took to release the countercyclical buffer released effectively up to £150 billion in borrowing capacity. That has helped to support domestic activity and other domestic asset prices.
Very importantly, the prospect and then the reality of major monetary policy stimulus has had a notable effect on a broad range of asset prices, including domestically focused equities. We should be a little careful. You said “a few straws in the wind”, which is right because it is early days, but as one of the factors it is helping to stabilise residential real estate, because there has been quite a considerable improvement in mortgage borrowing costs and we are seeing pass‑through of our policy action.
Q5 Mr Rees-Mogg: Prior to the referendum, the Bank’s and your emphasis seemed to be much more on the downside risks of Brexit, rather than the potential for monetary easing that the Bank of England could implement. Indeed, both the MPC and you personally in front of this Committee would not be drawn on whether monetary policy would be tightened or loosened in the event of a Brexit vote.
Why was the Bank not more willing to indicate its ability to deal with any consequences through a monetary loosening, which would have been a very considerable answer to some of the talk of downturn—indeed you referred to a technical recession—that came prior to the vote?
Dr Carney: Yes, I referred to a possibility of that, which is consistent with a Venn chart around any economic outcome.
We highlighted the risk of a change in the stance of monetary policy. In a delicate and somewhat febrile financial market environment, as was the case in the run‑up to the referendum and the immediate aftermath, we first and foremost needed to ensure near‑term financial stability. While we had to be credible in acknowledging dynamics in the foreign exchange market—the skews in option markets, the positioning that was there, the correlations between pulls and market moves; you appreciate all that—in terms of what was likely to happen, denying something that is as obvious as anything I have ever seen in the foreign exchange market is not a good way to maintain one’s reputation with financial markets. Let us put it that way.
We had to manage all of that. A concern in advance was that unfounded concerns about the resilience of the core of our system, about aftershocks and amplifications, about whether or not we were prepared, had our eyes wide open, had thought about this or had done the contingency work in advance, coupled with market dynamics, could have led—time has passed now—to an overshoot in a depreciation of the currency, which would have restricted the room for manoeuvre of the Monetary Policy Committee.
Q6 Mr Rees-Mogg: Do you really think so? The reason I ask is that you often find that, if central banks tighten in response to an overshoot on the currency, they create worse problems for the currency rather than improving things.
Dr Carney: Mr Rees‑Mogg, I sometimes find that it is good to have the foreign exchange markets, or any market, recognise that there is two‑way risk. We can use up this whole session—it is your session—going through counterfactuals and he‑said she‑said.
Mr Rees-Mogg: We will not. The Chairman will not let me.
Dr Carney: The fact is that this financial system, under the oversight of the Bank of England, sailed through what was a surprise to the vast majority of financial market participants. The fact is that the currency, while it adjusted, adjusted in a way consistent with a broader adjustment in the economy, which we are all working towards. We are in a position where the combination of where the financial system ended up and where the currency settled after the initial shock allowed both the Financial Policy Committee through CCyB and the Monetary Policy Committee to take timely, coherent, comprehensive action, consistent and mutually reinforcing across those committees, that will help and is already helping to support the adjustment, which puts all of you in a much better position to take the major decisions you have to take.
Chair: I am going to move the questioning on.
Mr Rees-Mogg: I have one more question.
Chair: It had better be very brisk and we need a one‑line reply.
Q7 Mr Rees-Mogg: It will be. The difficulty, it seems to me, is that the Bank in its dire warnings created a sense of that concern. The inflation report from May thought that households after the vote would defer consumption, asset prices could fall and unemployment would rise. So far, retail spending and the stock market are up and unemployment has fallen. You yourself predicted that there might be a technical recession.
The Bank of England was contributing to a fear in the markets about what would happen in the event of Brexit, which it is now saying that it has corrected, and that seems to me to be at the heart of the problem.
Dr Carney: Mr Rees‑Mogg, we were absolutely clear‑eyed about risk. That is our job. We are charged by Parliament to do that. The next step is not just to observe risks but to take steps to address them; we have done that. We have made the crystallisation of those risks less likely. I would add—and we will talk about the current economic situation—that it is absolutely welcome that there has been a rebound in some of these confidence figures and others. We will go into it when members want to go into it.
Q8 Mr Baker: Good afternoon. I should say that I do of course share some of Jacob’s concerns, but in the interests of balance and fairness I would like to observe that, in the immediate aftermath of the vote, there was a tremendous vacuum of leadership and a great deal of economic concern, for whatever reason it arose. Governor, you of course stepped into that vacuum with a great deal of statesmanship. As much as I disapprove of the extent to which markets are dependent on what you say, you did calm the markets at a historic moment, so thank you very much.
I would first like to turn to the monetary aggregates and look at the rate of growth in M4 on your own figures. It was descending from May 2013 until November 2014, but then between November 2014 and April we were looking at a growth rate of 4% to 5%. However, the growth rate has then shot up: in June 6% year‑on‑year and in July 6.9% year‑on‑year. With M4 already growing markedly faster, are you not precipitant to fire such a big package of expansionary measures?
Dr Carney: There are a couple of things. First, as I am sure you are aware, the relationship between monetary aggregates and inflation is tenuous at best and very unstable. I will quote one of my predecessors at the Bank of Canada, Gerry Bouey, who spent virtually his entire tenure as Governor in monetary targeting and abandoned it in the end. His quote was not that he had abandoned monetary targeting, but monetary aggregates had abandoned him, because there proved to be no relationship between the two in the relevant horizon for monetary policy.
We had a growth in credit aggregates driven principally by some firming in the housing market and the natural rollover of people buying more expensive properties from cheaper properties, and some pick‑up in unsecured borrowing, notably around the auto sector. We could see that starting to decelerate in June and then prospectively an expectation that that deceleration would continue, which has been by and large borne out.
To borrow from Professor Forbes’s report, we are making monetary policy in a forward‑looking manner, given shifts in hard and lumpy decisions, with a slowdown in business investment, auto sales and commercial real estate; some deceleration in the housing market; plus high degrees of uncertainty and shifts in confidence. This is where I will say that we were very clear in this report and the press conference that came with it that we expected things such as the SIPP, CBI and other surveys to bounce back. We did not give a point estimate of how they would bounce back, but, when something unexpected happens, there tend to be oversized moves in these surveys.
I will hand back because I know you want to talk about monetary.
Mr Baker: No, I have a range of questions.
Dr Carney: Just to finish on this, in our forecast in this report we aimed off from the expectations and survey data; in other words, our forecast was much stronger for the second half of this year than a simple mapping of what the data suggested we had in hand.
Q9 Mr Baker: I am looking forward to seeing what the economist Andrew Lilico says about this, because he tweeted something along the lines of the package looking ridiculous because of the way M4 was changing, and I just observe that my preferred measure from Kaleidic Economics, which discounts some certain near‑money quantities, is growing by over 10%. However, I certainly accept what you say: that there is not a mechanical relationship between aggregates.
I want to pick you up on this point about indicators bouncing back, and indeed they have, both on manufacturing and services, as of course you know. If the Bank expected those indicators to bounce back after the vote, why did it not say that markets should expect to see a bounce‑back?
Dr Carney: We did.
Mr Baker: Perhaps you could remind us where you say it and how prominently.
Dr Carney: Page 39 of the report. Ben Broadbent’s comments in the press conference answered it separately. Those are two examples of when we said it. We expected them to bounce back. As to the recovery in the SIPPs—I will give you a broad brush sense here—we have reported 0.6% growth in Q2; that is the latest ONS estimate. Our estimates of Q3 and Q4 are consistent with about 0.1% growth. At the time we made that judgment as a committee, the survey data was consistent with—according to Markit, the people who produce it—negative growth of minus 0.4% for Q3 for example. That gives you a sense of the judgment, alongside other models and other things we use.
With the bounce‑back right now, if you take the sum of the data that has come in, it is running a bit stronger than that 0.1%. That is great; that is welcome. We will see when we get all of the data in. However, broad brush, is growth running about half as much as it was prior to the referendum? That is probably about right, given what we know right now. We expected some bounce‑back; there has been a bit more, but we are keeping it in perspective. As Mr Rees‑Mogg said, we have some straws in the wind.
Q10 Mr Baker: Could the Bank have given higher prominence to this expectation of bounce‑back than it did? At times, it felt like we were reading the apocalyptic literature of Jeremiah and Ezekiel rather than expecting some brief suffering and then a bounce‑back.
Dr Carney: No, we said little or modest growth in the second half of this year. How that gets reported is different. Of course, I am not going to represent all of it by any stretch of the imagination, but part of this is that there is a bounce‑back because the Bank took timely, comprehensive and concrete action. That action has had an impact on financial conditions, which have improved considerably since we acted and had already been improving in the few weeks in the run‑up to that, in anticipation of some action. It has helped to reinforce other factors, which been supporting confidence.
Q11 Mr Baker: I am keen to move on. City A.M. has said that the two Morgans have revised their GDP figures. Do you expect to revise up the Bank’s GDP forecast and to what extent?
Dr Carney: Let us put a couple of things in perspective. First, just to be clear, when we put out this forecast we were above consensus, so if you want to take private sector forecasters, they were more pessimistic than the Bank of England. Secondly, those firms that have revised their forecasts in the last few days have revised up their forecasts and they are still less than where the Bank of England is.
Q12 Mr Baker: Another one from City A.M. is that they wrote, “Financial markets rattled by Bank’s Brexit Bazooka” and in the course of the article, “The Bank of England's latest bond-buying spree has rattled financial markets by stoking fears that the massive £70bn post-referendum rescue package could be overshooting its mark.” A comment from Neil Williams at Hermes read, “By distorting markets, supressing saving, and increasing the funding strains on many pension schemes, quantitative easing is fast becoming the problem, not the solution”. Sir Jon, is there any merit in what is being said by Neil Williams at Hermes?
Sir Jon Cunliffe: There is a general long‑term issue around pension funds, as you have mentioned them, and insurance companies about a low or very low for long environment. It is not a particular issue for the UK. It exists and there are long‑term considerations around that.
In terms of the action the Bank took, I would make a number of points. First, to some extent the pension industry and those who depend on it depend on the health of the economy, and by supporting the economy one is supporting the beneficiaries of pensions.
Secondly, when you look particularly at the deficit that has appeared in defined‑benefit pension schemes administered by the pension fund regulator, it has gone up. If you look at the funding contributions of companies, the regulator gives companies a considerable period of time to make up those deficits. There is a reason for that: if you require companies to make up the deficit very quickly, then you can damage the earning potential of the companies and make the position worse. Longer term, there is an issue about a low interest rate environment and the issue that has in this area. In the short term, if you look at what has happened to company contributions to pension funds and the time to adjust, no, I do not buy that. I go back to my other point that, if the economy deteriorates, that is not good for pensioners or pension funds.
Q13 Mr Baker: I have only had about half of the questions that I would have liked, but the Chairman wishes to move me on.
Dr Vlieghe, in some of your earliest evidence you acknowledged that monetary policy has redistributive effects. The Prime Minister in her first speech as Prime Minister said, “Monetary policy—in the form of super‑low interest rates and quantitative easing—has helped those on the property ladder at the expense of those who can’t afford to own their own home. Do you agree with the Prime Minister and do you think this will have long‑term effects that particularly might affect people’s faith in the market economy to deliver just outcomes?
Dr Vlieghe: There are quite a few steps there. I still agree that, as I said earlier, monetary policy has redistributive effects. Monetary policy does not aim to redistribute; it is a side effect. Monetary policy aims to hit an aggregate inflation target, usually by influencing aggregate spending, and it is always the case that different groups in the economy are affected differently by changes in interest rates. There are always people who want higher rates and people who want lower rates. We can only set one rate in order to meet that aggregate spending target.
It is also generally the case that the biggest spending response to our monetary policy action comes from people who have debt or are borrowers. They are both the ones who reduce spending sharply when we increase interest rates and the ones who increase spending when we reduce them. It is just an unavoidable fact of the monetary transmission mechanism, but that is how it works.
Mr Baker: I am disappointed to say that I shall now be obeying the Chairman’s strictures.
Q14 Chair: Sir Jon, do you agree with Andy Haldane that jobs are more important than pensions?
Sir Jon Cunliffe: I would say that to some extent it depends who you are.
Chair: It depends whether you are unemployed or a pensioner.
Sir Jon Cunliffe: It does. I would not make a comment about which group is more important. Maybe I can answer this at a higher level of generality. A pension is a claim on the future economy, and if people do not have jobs and the future economy does not have prospects, then pension claims will not be satisfied. It is in the interests of pensioners and others, particularly with the dependency ratio in this country changing and fewer people working to support more pensioners, that people have jobs.
Q15 Chair: Governor, is the Bank trying to run a full employment policy?
Dr Carney: No, at the moment the Bank is trying to manage a somewhat more challenging trade‑off between volatility in employment output and inflation, and we have struck that balance.
Q16 Chair: You have given a clear answer to the question. We have three—one could say four—elements in this stimulus package. We have more QE in two forms, the cut in bank rate and the term funding scheme. That, broadly speaking, is what it consists of. When did that package first start to be assembled in the Bank?
Dr Carney: It began between the July and the August meeting.
Chair: Not prior to the July meeting.
Dr Carney: There was work on the monetary policy options that had been in train for the months preceding. As a committee we episodically commission this type of work.
Q17 Chair: You have pretty much given me the answer: most of this work started in July, except you did some work on interest rates earlier.
Dr Carney: It got to a level of substance and detail that could be properly presented to the committee at that point, even though we had had discussions conceptually around some of these issues. The minutes will reflect when we had serious discussions about things and when we did not.
Q18 Chair: When were the Government first made aware of the intention to develop a term funding scheme?
Dr Carney: I will have to go back for a precise date, but it would have been within the first two weeks of July.
Q19 Chair: How was that communicated?
Dr Carney: It was communicated both at various levels of officials—
Chair: It is the highest level that I am interested in.
Dr Carney: The highest level was by me to the Chancellor. You will recall that there was a new Chancellor.
Q20 Chair: Is this the new Chancellor?
Dr Carney: Yes.
Q21 Chair: You went to see the new Chancellor and said that you were thinking about a term funding scheme?
Dr Carney: As you would expect, we had a series of wide‑ranging discussions about the economy, short‑term contingency issues and monetary policy options, what we were thinking about and the potential consequences for the Government, yes.
Q22 Chair: As I understand it, the funding for lending scheme does not have an indemnity, does it?
Dr Carney: No, it does not.
Q23 Chair: No, but the term funding scheme does.
Dr Carney: Yes.
Q24 Chair: When you went to see him, you said, “I would like an indemnity please.”
Dr Carney: Yes. As you recall, I was not here for the genesis of the funding for lending scheme, which was initiated more by the Treasury, or jointly initiated by the Treasury and the Bank. The term funding scheme is a pure monetary policy scheme, entirely in the province of the MPC and there for the transmission mechanism, as opposed to funding for lending, which was a blended monetary/credit aggregate. The objective of funding for lending included—
Q25 Chair: I have got the distinction. I am noting that it is pretty fine. If you had not got the indemnity, would you have gone ahead?
Dr Carney: That was not a decision that we were faced with.
Q26 Chair: I know, but I am asking you what you would have done then. You must have had a contingency plan; this is a lot of money.
Dr Carney: Let me answer it this way. There is indemnity for the amounts, but indemnity for actual risk and the risk is considerably less. The risk requires a default of a major bank and then for the collateral, which is heavily over‑collateralised, not to be realisable.
Let me answer it this way. The term funding scheme was a decision of the MPC. We felt it was important to ensure that, if we were going to have the Bank rate cut near the zero lower bound, it was fully passed through. That is its purpose. Its purpose is not to incentivise lending, but to make sure there is pass‑through of the price of credit.
This is important. If, as the MPC, we debate a monetary policy decision or a new instrument and we are unable to implement it because we do not have the balance sheet, the capital, to do it—it is a risk that is not prudent—we will disclose that we are minded to do something but are unable to do it. In this case, if we had not had an indemnity, that would likely have been the outcome.
Q27 Chair: The Chancellor, when looking at your kind suggestion that he write you an indemnity, was faced with the prospect that he as the new Chancellor would immediately find himself challenged by the Bank, with the fact in the public domain that you had made a request for something that had been turned down by the Treasury.
Dr Carney: We are deeply into the counterfactual.
Q28 Chair: We are not really. You have a gun to his head when you turn up with these proposals. For a Chancellor to say no is a heck of a step when you are turning up and saying, “We need an emergency stimulus package that involves measures as big as these, including more QE and an unprecedented increase in bonds.” You have only done a couple of billion or £3 billion up until now, and you are now doing £10 billion. These are big changes. He is not in a position to say no to your request for an indemnity, is he?
Dr Carney: He absolutely is and I will say this: I do not want to go into the detail of our discussions, but the Chancellor—
Chair: I have not asked you to do that.
Dr Carney: I understand, but given recent precedent—
Chair: It is good of you to observe that, although I have not asked you.
Dr Carney: Thank you. We had a series of discussions about options and quite rightly went through the risks. There is a new governance framework in place for risk management within the Bank of England. There is sharing of risk metrics and risk packs with the Treasury so they understand in real time what risks are being run with these various schemes. The decision to provide the indemnity was taken in that context.
I would further stress, for a broader audience of those who consider the options that the Bank of England would have that, if it were the view of the MPC to provide additional stimulus, then we have a range of options that we can pursue. If certain alternatives do not work, we can always consider others if additional stimulus is required.
Q29 Chair: I am asking these questions because the Bank is operating in a grey area between fiscal and monetary policy with these measures, and you are seeking an indemnity from the Chancellor but on issues that it seems to me are extremely difficult for him to say no to, notwithstanding what you have said, particularly in the circumstances in which he was presented with this decision.
I will give you a moment and by all means come back. You have not been short of airtime so far this afternoon. Public expenditure control and recourse to the taxpayer in this country is predicated on the idea that we have a central department, and the central department ultimately has responsibility for the lot and is therefore always in a position to say no. The Bank of England has always been something of an exception to this, with bank risk and risk on the Bank’s balance sheet. That balance sheet has of course now ballooned. We now have asset purchase schemes of about £500 billion. These are very large sums of money indeed—about 20% of GDP. We have arrived at the point where we need to start to think very carefully about the long‑term accountability structure and management of such decisions. I am not coming forward with any particular view on how current arrangements might be improved, but these are very big issues indeed for the long run.
Is it good for the Bank’s independence that you are carrying this level of responsibility; that it is inevitable that, when you turn up and see the Chancellor, he will probably have to say yes? After all, you are taking decisions and assuming responsibilities that were only recently considered the direct responsibility of politicians and the Chancellor before the House of Commons.
Dr Carney: There is a variety of issues in there. First, the indemnification mechanism in many cases—and it is certainly the case for the term funding scheme—is a product of the capital and revenue structure of the Bank. It is relatively unusual for an advanced economy central bank to not have recourse to seigniorage as a mechanism to replenish capital if capital is drawn down.
There is a long history of the Bank of England and you may understand—I understand parts of it—how we have got to where we are. However, there are certain ways to not have an over‑capitalised institution, but to have an institution that has effectively contingent capital and can run these types of decisions more efficiently. That is the first point, and I recognise that that is a big issue to raise.
Secondly, we should be a bit careful—not that you are not being careful—in terms of the orders of magnitude of risk here. The term funding scheme is fully collateralised; it is over‑collateralised and the recourse of that is effectively to our largest financial institutions first, then their collateral and only then to the indemnity. While the headline figure is quite large and merits scrutiny, the actual risk to the Government, the centre and the taxpayer is very low.
Naturally, these were all, in much more detail than this, the types of discussion I had with the Chancellor.
Q30 Chair: I want to place this in the context of saying that you come before us regularly and you are very forthright and full in offering views, as are the members of the relevant and accountable committees. That is doing a great deal to plug what could otherwise become a considerable accountability gap. I do not want to suggest that this is not going on, but I am suggesting that you are now operating in a political area—and you are on the FPC too, which takes what many people would consider to be political decisions, thinking for example of housing measures—and the core function of the Bank historically has been to operate with a high measure of independence from politics. That is the point that I am trying to make. I think you have got the point fully on board and will comment on it in a moment.
I would like to end by asking you to tell me if there is anything that people should read in the change of tone between the support for the asset purchase facility letter of February 2012 to the then Governor from George, which says, “I agree that an increase in the ceiling would provide the MPC with the scope […] it remains the primary tool for responding to changes in the economic outlook.” The letter that we have had to you dated 4 August from Phil Hammond, I must admit, has a somewhat more circumspect tone: “I note that it is the MPC’s view that in the absence of monetary policy stimulus there would be undesirable volatility in output.” “I note that it is the MPC’s view” sounds like a bit of distancing to me—or have I read something in this that does not exist?
Dr Carney: From my perspective you have, but I obviously do not speak for the Chancellor. I would note that the Chancellor’s letter also refers to—and I can dig it out, so I will not try to quote it directly—responsibilities, options or steps that the Government could take, and he has been public about a potential resetting of fiscal policy when the point comes. One would therefore read the fiscal monetary mix in the round.
Chair: We have had a good canter this afternoon around different aspects of the accountability question prior to and post‑Brexit, and in the light of the effect of the measures on the Government’s and the Bank’s balance sheet. Perhaps we now ought to look in more detail at the measures.
Q31 Rachel Reeves: Thank you very much for coming along this afternoon. I want to continue on the theme of the term funding scheme, but I want to look at the efficacy of the policy rather than how it came into being. Governor you said, at the inflation report conference back in August, “The banks have no excuse with today’s announcement not to pass on this cut in bank rates”, yet Moneyfacts have reported that almost half of providers have failed to pass the full 0.25 percentage point cut onto their SVR borrowers in the mortgage market, with the average SVR falling by 0.09 percentage points in the last month. Does that worry you?
Dr Carney: It does not worry us, but we are watching it, and let me explain that response. First, five of the big six banks that account for the vast majority of SVR lending, both actual and likely marginal, have announced that they will pass it on. The sixth, I am highly confident, and I am giving parliamentary testimony, will pass it on, based on conversations.
The Moneyfacts data you quote is correct. It largely represents 50 or 51 smaller lenders whom we supervise, and in virtually every case they have not yet had the board meeting that is required in order to make the adjustment to the SVR. Therefore, we do expect the pass‑through to SVRs.
Q32 Rachel Reeves: I recognise that there are lags in the transmission mechanism. When would you expect that full 25 basis point cut to be passed on? How much would you expect to be passed on and over which time period?
Dr Carney: We would expect virtually the full amount to be passed on in the course of the next few months. As you can appreciate, we are also focused on what happens on marginal lending and the pass‑through to new loans of improved conditions in mortgage markets. If I may, I will note, in terms of the effectiveness of the TFS, that we are focused on what is passed through, and the channel for that is what is happening to bank funding costs. We calibrated this expecting about a 20 basis point fall in bank funding costs, and they have fallen 21 basis points in the most recent data. The funding element is flowing through to the institutions.
Q33 Rachel Reeves: Indeed, so their funding costs have fallen and yet the consumers have not yet felt that.
Dr Carney: We are expecting it, and we are their supervisor. One of the advantages of the structure of the Bank of England, as you know, is that because we have direct line of sight in terms of what banks are doing, where their net interest margins are and where their governance processes are, we feel that we were able to calibrate the scheme so that it provided just the right amount of off‑set to other pressures that they have. As the quid pro quo of that, as you are rightly questioning, we expect it to be passed on, and at this stage we are satisfied that this has been put in place.
Q34 Rachel Reeves: Dr Carney, you say on SVR that you expect it to be passed on within the next few months—almost the full amount—but you are also looking at new loans. On new lending, would you expect the rates in the market for mortgages to fall by the 25 basis points, and over which time period?
Dr Carney: Yes, we are seeing that mortgage rates have fallen more than we would have expected, in part because—it is not an exact science—the yield curve has moved down more than we might have calibrated. At this stage, the effectiveness of the asset purchases has been more akin to the first round of quantitative easing than subsequent rounds and, as you know, since the preponderance of lending in the mortgage market right now is on fixed terms, it is that bit of the curve that is more relevant for new loans. We are seeing that come through.
Q35 Rachel Reeves: How much have you seen that fall by?
Dr Carney: I would be happy to write to the Committee if you would like to have precise figures. That may be more efficient.
Q36 Rachel Reeves: Drawing on something that Steve Baker asked about earlier, the impact on savers, Dr Carney, you say that the boards of these banks have not yet met to pass on the SVR cut, and yet I note that many of the banks do not seem to need their boards to meet to pass on cuts in interest rates to savers. Does that surprise or annoy you?
Dr Carney: I received a few letters myself, yes. It is having a policy in place that directly passes through; that is the difference. From a governance perspective, it is an asymmetry, yes, of which I am now aware.
Rachel Reeves: One that you note.
Dr Carney: Yes, I note.
Q37 Rachel Reeves: You say that you supervise these banks, but you do not have any say over their interest rates. Apart from setting the Bank rate, what ways do you have of ensuring that the transmission mechanism works and does so quickly and effectively?
Dr Carney: You are absolutely right; we are not the conduct regulator of the banks. We expect competition in the Banking sector, as do the FCA and the CMA. This is a very transparent facility with a clear purpose. Everything we could see beforehand and everything we have learned since tells us that it is appropriately calibrated. It is open to 140 institutions and is having a knock‑on effect on overall funding conditions to the degree we expected.
There is no excuse for not passing it on, and so it becomes a question of whether it is governance—I will not allege anti-competitive behaviour—or another factor that could be causing an institution not to pass it on, which we will look into from a prudential perspective. We have not yet encountered and I am not aware of circumstances where there is a direct reluctance to do so, and certainly with the largest institutions we have seen it passed on.
Q38 Rachel Reeves: Are you saying that a competitive banking sector makes the transmission mechanism for monetary policy more effective?
Dr Carney: Absolutely, and I will give you the counterfactual: if there is a controlled experiment where there is a clear improvement in the funding positon of the banks because of a facility in generalised funding conditions, and that is not passed on, a competition authority or an authority with responsibility for aspects of competition might be in a reasonable position to ask them the question, “Why not?”
Rachel Reeves: The huge concentration of current accounts and mortgages in just a small number of banks is not very good for monetary policy; that was not my line of questioning, but it is interesting.
Dr Carney: That is an interesting question, yes.
Q39 Rachel Reeves: One of the things you seem to be doing at the Bank to try to ensure that these cuts in rates are passed on is the term funding scheme. You are effectively providing £100 billion of cheaper loans to the banks to try to ensure that these cuts are passed on. To what extent are you monitoring whether those cuts are increasing the Bank’s bottom line versus being passed on to consumers? Are you monitoring that?
Dr Carney: Yes is the short answer.
Q40 Rachel Reeves: How?
Dr Carney: We know who has changed their posted rates; if they are directly availing themselves of the scheme and have not changed their posted rates, that is easily mapped and channelled. There is then a more generalised question of who has passed on and who has not, and, as I say, overall funding conditions have improved. If funding conditions have not improved for an individual institution, and that will be the case from time to time, then we as prudential supervisor—and I am now stepping well away from the MPC—will ask the question, “Why is that the case? Is the deposit market telling us something about the health of that institution? Is there an issue with their business strategy?” etc.
If I may bring it back to the MPC’s level, from my perspective, and the MPC will be briefed on this as we go along, the orders of magnitude of the pass‑through of the Bank rate cut to the real economy are already reaching a level that is consistent with our expectations when we put this in place and therefore, from a monetary stimulus perspective, we can feel that we are getting the monetary stimulus that we expected when we sat down a little more than a month ago and made these decisions.
Q41 Rachel Reeves: The funding for lending scheme had some tight conditions about accessing the funding. It is certainly true that, with the term funding scheme, you get a better rate if you lend more, but there is nothing that would cut off a bank’s access to the TFS if they were not passing on rates, is there? They might not get such a good rate from you, but they would still have full access to the TFS.
Dr Carney: They would have access to it, yes. As you know, the fee steps up: if you are growing lending, you get it at bank rate; if your lending is shrinking, which may be the case for some, then it steps up, up to 25 basis points above bank rate at the extreme. Your line of questions is directly on this: the purpose is monetary policy transmission so the focus is really on passing through that bank rate cut. This is not an instrument that is trying to do multiple things, so we are not trying to incentivise lending with that. One of the things we have done to incentivise ending was to cut the countercyclical capital buffer.
Q42 Rachel Reeves: My worry is that it could just boost banks’ profitability without seeing any increase in lending because there are not tight conditions about access to it. I do not totally understand why you have not made the conditions around it a bit tighter.
Dr Carney: Part of the answer is that the conditions we have put in place have worked. We have seen that the big six banks are all going to pass the Bank rate cut through to SVRs. We expect that to happen in short order with a range of challenger banks and other institutions—a number of challenger banks have as well, I should say. We believe that we have it calibrated appropriately and the incentives are right.
I repeat myself: this in and of itself is not a scheme to incentivise lending. Overall easing in monetary conditions obviously incentivises borrowing and therefore lending. Competition in the sector incentivises lending. Cutting the countercyclical buffer, which we have done, releases £150 billion of lending capacity; and just to mention that last year, in 2015, with the economy growing above or at potential and a financial system firing on virtually all cylinders, net total lending was £60 billion. This is an important point for anyone who is, or has the misfortune of, listening: there is not an issue with access to credit. There should not be an issue with availability of credit in this economy.
Q43 Rachel Reeves: Dr Carney, I do not doubt that the MPC and the Bank are throwing everything at this. I am suggesting, or I worry, that the TFS is not helping the Bank to meet its target; it could just be helping banks to increase their profitability. That does not hinder you meeting your target, but it is quite a generous scheme for the banks without them having to do anything for it.
Dr Carney: Net‑net, the calibration of this is a wash for profitability of the banks, relative to the pressure they get.
Q44 Rachel Reeves: As well as the cut in the base rate and the term funding scheme, there are the additional asset purchases, including the £10 billion for investment grade corporate bonds. I wanted to ask you, Professor Forbes, why you voted against those two measures and whether anything that has happened since the MPC meeting in August has made you think again.
Chair: We are going to go into that in more detail in a moment, but, if you would like to give a brief preliminary reply now, do, and we will explore whatever you say in more depth later on this afternoon.
Professor Forbes: I discuss it briefly in my annual report, but I will give you the summary. At the time of the August meeting, I had four sets of concerns. I felt that the economy looked likely to slow moderately, so some easing was necessary, which is why I supported the cut in bank rate by 25 basis points and the term funding scheme. However, I had four cautions that made me hesitant to support additional stimulus at that time.
The four hesitations were, first, that my baseline scenario for the economic outlook did not suggest very much slowing, so given what we knew at the time, I did not think it made sense to provide any additional stimulus.
A second concern was that, although the economy appeared on track to slow a bit, it was unclear if that would also be matched by a slowdown in supply, which suggested that additional stimulus could then lead to more inflationary pressures and not make sense.
A third concern was that the exchange rate had depreciated quite a bit at that time and many foreign markets expected to see more depreciation at that time. A standard pass‑through estimate suggested that inflation was on track to pick up and be above target, and I wanted to better understand the impact on inflation before providing additional stimulus that could then provide a bigger overshoot than I was comfortable with.
Fourthly and finally, I was concerned about the costs of additional stimulus. Monetary policy always has costs. You have to weigh the benefits and the costs, and I saw relatively small benefits and increasing costs of additional stimulus, which I would be happy to talk about.
Chair: That is a helpful summary, which was also in your paper. We will ask questions to develop that in more detail later this afternoon.
Q45 Chris Philp: Welcome again to our Committee. Continuing the line of questioning that Rachel Reeves has been pursuing on the monetary stimulus, Governor, are you concerned that the combination of monetary stimulus measures that you have put forward, combined with the more benign than expected economic backdrop, puts us at risk of an asset price bubble?
Dr Carney: No. There are a couple of things. One is that—and time will tell; it is still early days—some of the confidence improvement is a product of the action, so there is a recursiveness there. You would not have the more benign to the same extent without the actions of the Bank.
Secondly, the value of UK‑focused asset prices in this country is going to be crucially, importantly and—we all hope—positively influenced by the major decisions that Parliament is going to take with respect to our relationship with Europe and the rest of the world, and broader productivity and other strategies that are catalysed by or associated with this.
Thirdly, it is clearly the responsibility of the Financial Policy Committee not to target asset prices per se, but to ensure that the conditions associated with asset price movements are not creating vulnerabilities—so not debt‑fuelled movements in asset prices.
Q46 Chris Philp: You said a few moments ago in answer to Rachel Reeves that there is no lack of credit availability in the United Kingdom. Does that apply across all sectors or are some sectors amply providing credit while others—small operating businesses for example—might experience difficulty in accessing credit? I am sure that many of us have spoken to small businesses, manufacturing businesses for example, who would not agree with the statement that there is ample supply of credit.
Dr Carney: It is a fair challenge to have that statement qualified. If you have a viable business idea, if you qualify for a mortgage, you should be able to find credit. There will always be sectors in this or any economy for which credit availability is more difficult, given shifts in their competitiveness, foreign competitiveness and a variety of other factors. It has improved, but it has been the case for some time that access to credit for small and medium‑sized enterprises has been more challenging, and has certainly been more challenging relative to history. That has improved with time and that improvement should be helped by the actions of the FPC, not just releasing the countercyclical buffer, but also maintaining restrictions on very high loan‑to‑value/loan‑to‑income mortgage lending, which encourages banks to use their balance sheets in a more diversified and less risky fashion, to go back to your first question.
Q47 Chris Philp: You hinted a moment ago when asked about asset prices that one reason for easing monetary conditions was that you were concerned about what Parliament might do in determining the Brexit arrangements, which shows a slight lack of confidence in our colleagues, but anyway. You said prior to the Brexit vote that you thought Brexit might lead to a technical recession. Does that remain your view or has your view changed in light of the facts on the ground since 23 June.
Dr Carney: I am sorry, but I am not sure that I will let the first part of your question stand; you said that I said something I do not recollect.
Chris Philp: You said that the one reason why you were less concerned about an asset price bubble in response to my previous question was that we did not yet know how Parliament would legislate to implement Brexit, as if to imply that that was a risk.
Dr Carney: No, my intention was to imply the exact opposite, which is a pick‑up in productivity consistent with higher asset prices.
What was the second bit of your question?
Q48 Chris Philp: You said, prior to the Brexit vote, that you thought there was a risk of a technical recession as a consequence of Brexit. Does that remain your view or not?
Dr Carney: That is obviously a loaded question.
Mr Rees-Mogg: I didn’t ask it.
Dr Carney: I know you didn’t ask it. Any forecast of the Bank of England or the MPC gives a range of probabilities around a forecast. When we speak about a forecast, we speak about our central expectation and then try to elaborate on the risk. Within the range of probabilities around this forecast, there are scenarios where the economy does not grow; the economy shrinks for a period. Those are less likely. That was not our central expectation. We provide the information that allows you to estimate the probability of having negative growth for a period of time.
Q49 Chris Philp: Has your probability‑weighted average expectation of a technical recession gone up or down since the vote?
Dr Carney: Since the vote?
Chris Philp: Your view of the probability‑weighted average of a recession: is it higher or lower now than it was prior to the Brexit vote?
Dr Carney: I will answer that, subsequent to the actions of the Monetary Policy Committee, it has gone down.
Mr Baker: You should be in politics.
Chris Philp: It has gone down, but you are taking the credit for it.
Chair: He has been in politics for some time if you ask me.
Q50 Chris Philp: I have one final topic, which I have asked you about before so it will not surprise you that I am returning to it. That is of course the topic of the current account deficit, which continues to be gigantic and is in fact unprecedented since records began in 1955, at 7% of GDP. Your report on page 21 states that you think the weakening in sterling in particular will cause the current account deficit to narrow. Are you therefore content to let this play out naturally or do you think there is anything further that either the Bank or, indeed, the Government should be doing to address this exceptionally large current account deficit?
Dr Carney: First, to give orders of magnitude, we think, consistent with this projection, and this is broad brush, it is possible that the current account deficit by the end of the projection could be reduced below 4% of GDP, so it is quite a considerable adjustment. You will not find that precise figure there; I said it in response to a question at a press conference.
Q51 Chris Philp: What is the forecast period?
Dr Carney: Three years.
Chris Philp: It is 4% by 2019.
Dr Carney: Yes, less than 4%; in the 3% range by 2019. The benefit from sterling depreciation on the export side, on the net trade, takes time. There is a J‑curve, but it takes time. However, we also get a direct benefit on the net investment account because of the structure of private asset holdings, so that is considerable.
What should we be doing? From a bank perspective, and this is more a Financial Policy Committee perspective, we should be ensuring that the borrowing in the economy is macro‑prudentially prudent, so the right mix for the current account deficit—maybe this is the way I should have begun my answer—is relatively stimulative monetary policy, subject to the remit, a path of fiscal consolidation and active macro‑prudential policy to ensure that the consequences of that combination are not creating some of the vulnerabilities that you highlighted.
We have stimulated, consistent with the remit, and we have active macro‑prudential policy, which at this stage—although the FPC is meeting over the next few weeks—we think is appropriately struck.
Q52 Chris Philp: Does the size of this deficit concern you? If you think about the two or three things you worry about the most, is this on that list?
Dr Carney: It is not a top concern from a monetary policy perspective. From a financial policy perspective, yes, it is one of our concerns.
Q53 John Mann: Just to pick you up, Governor, on your partial answer to Mr Philp, you said that as a consequence of your actions the risk of recession had gone down. Just to clarify, do you mean by that that it has gone down from the hour before or that it has gone down from before the referendum? In other words, compared to where we were before the referendum, is it still your position that there is a greater risk of recession today?
Dr Carney: Compared to before the referendum, there is less of a risk now. It seems such ancient history now, but there were financial stability risks in the immediate aftermath of the referendum. There were real reasons why we did what we did on the contingency planning side. It worked, but certainly that added to the risk of recession. If that had not gone as well as it did, we would have had different economic circumstances in the short‑term.
Q54 John Mann: On the helicopter money that you have thrown at the banks, why not name and shame, or applaud those that have passed it on? My mortgage has gone down. Coventry has passed on significantly. They should be spending, spending, spending to reflate the economy. As for those that have not done what Coventry has done, why do you not spell them out and name them so that everyone knows who they are? That might help to persuade them.
Dr Carney: I will take that under advisement. Thank you.
John Mann: We could help, if you would let us have the names.
Sir Jon, you have been around for a long time.
Sir Jon Cunliffe: I am afraid that is true.
Q55 John Mann: The Government keep talking about shock when it comes to the referendum. There was no shock. What the result was going to be was eminently predictable, even within minute percentage points, and it had been for a considerable period of time. My polling had not altered over the last 15 years on it and so it was easy to fine‑tune and get the results. Any political intelligence ought to pick that out, and yet the financial markets seemed to miss it. That is what they are in the business of doing: looking at human behaviour and how it acts. There is obviously a bit of an in‑built bias there. In terms of the future, are you confident about the political intelligence within the Bank being able to predict what is likely to happen?
Sir Jon Cunliffe: The hardest things for markets to predict are political events. Markets can think about the economy and forces within the economy, but political events are hard to predict. The markets have put a lot of weight, as have others, on public opinion polling, which has tended to be less accurate in recent instances. The Bank does not have any special machinery for trying to predict what will happen in politics.
Q56 John Mann: Let me home in on that. That is an important point, because some of us, for better or worse—unlike general elections; personalities come into that—for a referendum question thought that what the result would be was highly predictable. If one looks at other events that could happen next year and you may have to respond to, we can predict that there is going to be an election in France and an election in Germany. If one looks at the elections in the Länder in Germany this year, there is a very clear and consistent trend that suggests that there is not going to be the normal stable Government that Germany has had for a long time. On all current trends, that is highly predictable. Are you planning for or looking at that?
Sir Jon Cunliffe: If I could finish my previous answer, it may help answer your next question. The point I was going to make is that we cannot accurately predict better than the pollsters, or whatever, what is likely to happen in politics. The important thing for us is to be prepared for different eventualities and to try to see risks on the horizon, whether to monetary policy or financial stability.
If I can give you an example; we could not predict the outcome of Greece’s interaction with its eurozone partners, which could have had very big risks in terms of the eurozone economy, knocking on to us, and in terms of financial stability. However, we highlighted those risks and, in our skew of probabilities, which we report on, we put in a downside skew because we could see some of these risks coming. When we form judgments—or certainly when I form judgments—on monetary policy and financial stability, I try to take those risks into account.
To that extent, one is prepared for them, and if they are financial stability risks we can do things in the way that we did them before the referendum. The key is to be able not to predict the future but to recognise the risks, to be transparent about them and to try to build them into your judgments as best you can.
Q57 John Mann: Governor, if I were going to give you a prediction, I would predict that the Hollande Government will not be in power in a year’s time, and the hegemony of the CDU in Germany will be nowhere near where it has been in the last 20 years. Both of those would create some instability in the eurozone. How are you preparing for those possibilities, and how great are those risks to the UK economy?
Dr Carney: Sir Jon alluded to the Greek example; there have been other examples. One was in 2011, which is before I was here, but I was familiar with what the Bank was doing. Strains and potential instability in the eurozone more broadly impacted confidence, financial conditions and the stance of both monetary and—importantly, in terms of some of the capital‑raising of the banks—financial stability policy.
For obvious reasons, I am not endorsing the scenarios, but, if for whatever reason more acute instability were to threaten in the eurozone, we would be very transparent as a Monetary Policy Committee in terms of whether we felt that was affecting the skew of risk. We would be transparent as to whether we felt that it influenced any of our individual views in terms of the stance of policy that should be taken. As the Financial Policy Committee, and then as individual line supervisors through the PRA, we would not talk about specific institutions, but if we felt that our institutions should build additional buffers or take business actions accordingly we would do so.
Just to be absolutely clear, I am not saying that we are contemplating any of those things; nor am I making any comment about potential political developments on the continent. However, if we did feel that something was crystallising that could have a knock‑on impact, you would know that: through testimony, through our inflation report, through our forecast. It would most likely show up initially in terms of skews, but then potentially through the Financial Policy Committee and specific actions.
Q58 John Mann: The reason for asking is that very publicly under this Committee—and I never suggested at the time and do not now that it was inappropriate—you made a big play of going through the risks and your contingency planning for Brexit. You did it in a very public way and with us. The risk of a Government in France that calls a referendum is one that is there for next year. That would have big consequences. The risk of the CDU not being in power in Germany has huge shock consequences for the eurozone. That is a possibility; on current voting trends this year, possibly a strong possibility. Can we expect to see that kind of contingency planning made public next year?
Dr Carney: I would say that, as we sit here today, there are a few things that need to happen in order for risks to re‑emerge in the eurozone that would rise to a level that could have material spill‑overs to the United Kingdom. At this stage, there is not one single crystallising binary event that would result in a shift. However, there could be a series of events that build up to that circumstance. That is possible.
In the words of President Draghi, the euro is unfinished business. We fully subscribe to and recognise that, and as a consequence of that it is less resilient than it should be.
Chair:. There is plenty of unfinished business there.
Q59 John Mann: Dr Vlieghe, you have not had the chance to speak. With the tinkering you have been doing on monetary policy—whether for good or for bad—at the same time, 95% of land for housing and for industry employment in England is not allocated. The Government has delayed the process of that land allocation by three years now. If you want to invest, build houses or a new enterprise, large or small, you have no certainty on land availability or land price anywhere other than in 5% of England.
Should your work not be focusing increasingly on these blocks to the economy? Is it now becoming more apparent that a failure to do that, albeit because of the remit given, is becoming a fundamental weakness in your not hitting home some of the stuff that this economy needs to be thriving?
Dr Vlieghe: The committee, both before and since I joined, has talked at length about productivity growth, how productivity growth in the UK has been weak and how it would be easier for both the Government and the Monetary Policy Committee if it were stronger. However, it is not in our gift to do anything to make productivity growth stronger. We have talked a lot about how there can be reforms outside the Monetary Policy Committee, which are not for us to decide, that would be helpful, and I think that is what you are referring to. We are not going to start giving specific recommendations on structural reforms. That is not what the Monetary Policy Committee is about.
Q60 Helen Goodman: It is very nice to see you this afternoon. Dr Vlieghe, I want to follow up on the final question that Steve Baker asked about the distributional implications and impacts of QE in particular. Your answer was consistent with the statements that Andy Haldane made at the beginning of August. For the benefit of people listening I will just say what he said: monetary policy “cannot close other structural faultlines across the UK economy—for example, regional, socioeconomic, inter‑generational […] Monetary policy cannot set different interest rates for different regions” and the UK recovery has been “for the few rather than the many”.
You were saying that the distributional impacts were obviously different as between people who have mortgages and savers, and these were a side effect. Before you were a member of the MPC, the Bank of England did an analysis of the earlier package of QE in 2012, and that found that the impact on asset prices meant that the richest 5% of households had gained in wealth to the tune of £185,000, whereas the poorest 50% had seen no increase in their wealth or the value of their assets at that time.
I think you would agree with me that these are pretty chunky numbers. The average cost of a house in Britain is £215,000, so if the top 5% of people are getting enough money through the impact of QE to buy another one, that is quite significant, is it not?
Dr Vlieghe: It is, but you have to make an important distinction between the distribution of wealth and the distribution of income. It is absolutely true that in the UK, as in many other countries, distribution of assets is very unequal, and people at the bottom end of the distribution do not hold very much, or even have net liabilities, while people at the top end own a lot. If you make a policy, one of the mechanisms of which is to push up asset prices, then clearly you will disproportionally benefit the people at the top end.
However, it is also very important to point out that this policy is not just designed to push up asset prices. This policy has one effect of pushing up asset prices, but has another effect of pushing down borrowing costs, which affects people right through the income distribution, and ultimately affects the economy. That is very important, and one of the things that Andy’s speech showed is that we have seen an improvement over the last few years in the income distribution. The people at the very bottom have caught up a little bit in income terms, compared to, say, the people in the middle. That is because of the economic recovery, which in part has been helped by QE.
I do not accept that QE, in distributional terms, only goes the wrong way. In terms of wealth, no doubt it has a disproportionate effect on the top end, but in terms of the economic recovery and the income that it generates, it helps people at the bottom end tremendously.
Q61 Helen Goodman: I am not criticising the package that was introduced at the beginning of August, but I think that if my constituents were watching this—and the average cost of a house in my constituency is £160,000—they would feel that your answer was, if I might say so, a tiny bit complacent. What I wanted to ask you was whether or not the different approach to QE on this occasion might be expected to have different impacts from the approach that was used from 2008, in those early years.
Dr Vlieghe: I am not sure in what respect you mean a different approach to QE. We are buying the same government bonds in the same proportions.
Q62 Helen Goodman: We did not have the term funding scheme last time; the purchase of corporate bonds was purely to stabilise the market and was not a separate free‑standing initiative. I am asking whether we might hope that the distributional impacts this time would not be so huge as they were last time.
Dr Vlieghe: Certainly the corporate bond programme, more directly than the government bond programme, is designed to lower borrowing costs for companies, which we would hope increases their incentive to invest. In that sense, that aspect of the programme is different from before. However, all the mechanisms, broadly speaking, are still that there is an asset price inflation effect, which for some people will not create much consumption, but which will do so for other people. One of the things we have to keep in mind is that asset—
Helen Goodman: Can I just stop you on that point?
Dr Vlieghe: There is something very important: asset prices are not just wealth of rich people. Asset prices are also collateral for businesses to borrow against, so it is not the case that it is just giving money to the rich and it does not go anywhere because they do not spend it anyway, or they only spend it on frivolous things. A big part of our stimulating asset prices is that it is collateral against which people can borrow, and, if those prices go up, they can borrow more and they can invest more.
Q63 Helen Goodman: I accept what you say, of course. I was simply reflecting back to you the analysis that the Bank of England itself had done on the impact on households. That showed that the richest made a lot of money and the people in the bottom half of the income distribution did not. I would like to ask you more about this, because I had thought—and you can correct me if I am wrong—that people with the highest levels of wealth, when they got wealthier, were less likely to use that to consume than people with small quantities of assets or who are in debt. That brings into question the impact; I am not sure whether it is the second, third or fourth‑round impact, but if there is a distributional impact like this, what is its impact on the effectiveness of the monetary policy?
Dr Vlieghe: It is certainly true that, if we could devise a policy that gave the same amount of income and the same amount of wealth to everyone at the same time, it would have a much bigger stimulative impact than a policy that generated more wealth for already rich people than for people at the bottom end. However, I come back to my income point, which is very important. A recovery that generates jobs and income for people at the bottom end of the distribution has a very important impact on consumption. Despite the fact that there are people at the top end who are getting richer, and who might not spend very much of that increased wealth, our policy works through other parts of the distribution too and is very effective there. It has been shown to be effective in previous rounds, and so far the signs are that it is effective again in generating a recovery from which lots of people will benefit.
Q64 Helen Goodman: I wonder if I could ask Sir Jon whether the Bank might undertake the same analysis on updated figures—not immediately; there is no point in doing it now, but in September 2018 we might look to see you revisit this issue, to see what has happened on this occasion or whether it is a one‑way ratchet.
Sir Jon Cunliffe: I am very happy to look at doing that. Could I just add one point, though? I do not know if the Committee is interested, but the Chairman made some points a little earlier about accountability and the Bank being involved in decisions that were the province of politicians, or some might think would be the province of politicians. I would only point out that we have the tools we have. They are not perfect; as Professor Vlieghe has said, these have distributional consequences. However, we have a clear objective, which Parliament has given us with the Treasury, and we have certain tools to implement it. It does have distributional effects, and if we were to be in the business then of deciding what the distributional effects should be, we would be straying even further into areas that are really the province of elected politicians.
Q65 Helen Goodman: I am not sure about that. The Prime Minister raised it in her first opening statement as a problem.
Sir Jon Cunliffe: As all ex‑Treasury officials know, the Government have many tools at their disposal to deal with distributional consequences, and many ways in which political choices about how wealth and income should be distributed in society can be taken forward by the elected Government. I would make the point that it is not a perfect system. We have tools that, in order to meet our objective, have consequences on distribution. As my colleague has said, if we had tools that dealt with everybody equally it would be more effective, but there are ways in which the elected Government can counteract that, if they so choose.
Q66 Helen Goodman: Of course that is true. I am not expecting you to solve the problem of inequality in this country. I am just pointing up the problem to which it is adding and asking you to consider whether—since you have taken a slightly different approach this time from last time—it has had a differential impact. I think that is a completely reasonable thing for me to ask.
Sir Jon Cunliffe: I accept that, and we shall certainly look at what the analysis shows.
Q67 Helen Goodman: On corporate bonds, we had a long exchange on a previous occasion, when I was asking why more corporate bonds had not been purchased. I was told on that occasion that there was a difficulty with selecting which bonds to buy. I want to ask the very simple question: how are you choosing the corporate bonds that you are purchasing? I do not know which of you wants to answer that question. Sir Jon, why don’t you answer it?
Sir Jon Cunliffe: I am happy to answer that. We are buying—or propose to buy—pretty much the average of corporate bonds that are in issue. If you look at the roughly £150 billion stock of investment‑grade, non‑financial sterling corporate bonds and the sectors that have issued them, we will buy evenly across the sectors. Sorry, “evenly” is the wrong word. It is weighted by how much of the amount at issue is represented by that sector in those issues. It is designed to be distributionally blind.
Dr Carney: May I supplement? All of that, plus the issuing entity has to make a material contribution to the United Kingdom economy. That means they must be headquartered here, with employees here and substantial activity here. We will release in two weeks’ time a so‑called “market key”, which will go through the exact issuing entities and issues that are there. Out of that £150 billion corporate bond universe, in the order of magnitude of £100 billion of that that will pass the threshold.
We want to avoid people arbitraging this and issuing in sterling for the purposes of activity outside the economy. That does not do anything for domestic monetary stimulus; we want it for entities, and we will be very transparent about who is in and who is out, weighted across the sector. It is early days still, but I will say that one thing we had hoped to see with this was that it would encourage additional issuance in the sterling corporate bond market.
August is the slowest month, so it is a big multiple of what is normally a small number, but we had six times the average issuance in August of sterling corporate issuers after we had made this announcement. We are looking for this to have an impact that is beyond just what we purchased. We will be very transparent; it will come out. The market needs to know the sectors and the specific issuers.
Q68 Helen Goodman: Good. I am grateful to you, because my next question was going to be: “What does making a material contribution mean?” It sounds tremendously positive, but in fact you are basically saying, “Are they active in the British economy; and does it reflect the current structure of the British economy?”
Dr Carney: Yes, but that will include some multinational corporations that have big activities here and use their issuance here to fund UK activities, even though they also issue in dollars, euros and other things. We will release a market notice that goes through this in some detail.
Q69 Helen Goodman: Flipping back to the point that Chris Philp made, is there not also a bias in this towards large businesses as opposed to SMEs? I just wonder to what extent you have discussed with the ECB what they do, because my understanding is that, by going to purchase bonds from KfW and Cades, they are trying to focus specifically on SMEs, housing, infrastructure and those sorts of thing.
Dr Carney: There are a couple of things. We did, as a committee, have a discussion on exactly this issue, which is: “Where are we targeting the various instruments?” That is why we view the package as a package that is complementary. The purchase of corporate bonds is from larger issuers, without question. It does free up the balance sheet for banks and others for SMEs.
Housing finance in this economy is quite sophisticated and is directly hit through the channel of the Bank rate cut, the TFS and the gilts purchases, all of which are lowering costs there. While the SME access was not directly a monetary policy decision, the MPC was involved and informed in the discussions before it, and had discussions with the FPC around the release of the countercyclical buffer, which opens up additional capacity for SME finance.
We have discussed this as a Committee and we did think quite carefully about how we could target the various areas with the existing tools we have. SME finance in this country is an issue, as Mr Philp raised and you are raising. It has been an issue for some time. It was an issue in my home country of Canada as well. I do not know that anybody has fully sorted it out, but through the tools we have we think that we are hitting across the most important sectors—with varying degrees of effectiveness, but effectiveness nonetheless.
Q70 Chair: Parliament will not be sitting in a fortnight’s time and this contribution to the economy point is something that a good number of people in Parliament will take an interest in. Is there any possibility that that could either be brought forward, or that you could put out an early indicative summary, if necessary without all the full operational details?
Dr Carney: I had not appreciated that. I will look to accelerate it. Obviously, Chair, we want to avoid giving a mis‑impression in the market that something is in when it is not.
Q71 Chair: Of course. I am not demanding it; I am asking if there is scope for it. I notice that you stepped in, I think after Sir Jon had pretty much said that these purchases were at least going to be attempted in a neutral way. He is nodding his head in assent. You came in and said you had talked about—and you used this phrase—“contributions to the economy”. It is contributions to the economy in a neutral way, then.
Dr Carney: Absolutely. It was a supplement to his point.
Q72 Stephen Hammond: Governor, in your last answer to Helen Goodman I think you said the package was regarded as complementary. The inflation report says that “purchases of corporate bonds would provide a greater boost to activity”, which you have just outlined. If post‑Brexit one month’s numbers prove to be illusory, and the outlook weakens again, should we take it that potentially, in the next package, corporate bonds might feature more heavily?
Dr Carney: One of the advantages of the package of measures we have taken, in the view of the committee, is that on any element of the package we could take additional steps. Because we have the TFS—and I would reinforce that, given our initial experience with it, it is working—we feel that there is additional room to cut bank rate in a way that is effective for the economy.
We have seen in some other economies that, when rates get too low or too negative, there have been some negative feedback effects. We think we have a pretty good handle on what the right level is for this economy, so we could cut bank rate further if we needed to, in conjunction with expanding the TFS if that were warranted. Could we increase corporate bonds? Yes, we could, and we could increase gilt purchases. We would have to take a judgment at the time as to which was most appropriate.
Q73 Stephen Hammond: I should take it from the vote of members of the committee that corporate bonds are now featuring more strongly in your thinking about possible further QE.
Dr Carney: There are two things. First, for a majority of members of the committee, although not all, there was a view in August that if the economy were to evolve consistent with the forecast, an additional cut in bank rate would likely be warranted by the end of the year. We have time to make another forecast, get more information, make those decisions. The decision to purchase corporate bonds is about efficacy of policy, using every purchase as effectively as possible. We think that, pound for pound, a corporate bond purchase is more effective than a gilt purchase in providing stimulus, which is your line of questioning. I agree with that; we agree with that as a committee.
Q74 Stephen Hammond: But unless you see the issuance in the senior grade market, it will be a problem.
Dr Carney: Exactly. We are limited in that we do not want to become the market. If we are £10 billion of £100 billion, that is a reasonable balance.
Q75 Stephen Hammond: But the committee can take it that it will continue to feature as part of the monetary package.
Dr Carney: If additional stimulus is warranted, we will look at a range of options, but we will have to ensure that what we do is allocatively neutral—in other words, others are making the decisions on who gets the capital. There is a universe of corporate bonds out there; the market has decided who has borrowed, and so we do it, as Sir Jon said, in a neutral fashion across that. We do not want to be picking a sector as the Bank of England. That is entirely inappropriate.
Q76 Stephen Hammond: Professor Forbes, if I could turn to you, obviously you were one of the members of the committee who voted against both the gilt purchases and the corporate bond purchases. In your report, you cite concerns about the cost of monetary policy and the risks of this particular package. In your answer to Rachel Reeves a few moments ago, you talked about inflation. I wonder if you could go through your rationale for your decision, and also whether you could set out the probability of the risk you see on the upside for inflation.
Professor Forbes: Let me first back up and say that the data still suggests, despite some of the most recent data being more positive than consensus expectations, that there will be a slowing in the economy, so some monetary easing does make sense. I stand by that decision, but I felt only a moderate easing was necessary at the time and not more, and therefore I did not support the purchases of corporate debt or government debt.
Again, there were four reasons. One was that, especially at the time of the August meeting, I was not convinced that the data suggested there was a material enough slowing to merit additional stimulus. I put very little weight on the shortfall in the survey data, because, as the Governor mentioned, we know that historically, when there are major political events, the survey data often overreact on the downside and can bounce right back up very quickly, with little significant impact on GDP. I wanted to wait to get more evidence.
We should also use the same caution in interpreting the recent bounce‑back in the survey data. We need to take these data very cautiously. If a lot of companies see a small downturn or upturn, those can be magnified in the survey data, so we should not read too much into any one month’s data. Overall, I wanted to wait and get more information on exactly how much slowing had occurred in the economy before providing additional stimulus.
A second concern was that, if there was only moderate slowing in demand, there could also be supply effects on the economy. If people are worried about the effects of Brexit and delay investment or hiring, that could reduce the supply side of the economy. That additional stimulus could cause inflation to pick up even faster than in the forecast, and we were already predicting an overshoot.
A third concern was overall inflation more broadly, especially related to the exchange rate. The exchange rate has depreciated now about 9% since the vote. It has depreciated about 16% since its recent peak in August 2015, so if you just use standard rule of thumb estimates of pass‑through, it would suggest that the CPI price level will increase by 3 percentage points. That is a substantial pickup in the price level, on top of the fact that the past falls in energy and food prices are rolling off. Inflation is likely to pick up quite quickly and could overshoot.
I think in our current baseline forecast that overshoot will only last for a period and then come back down. Domestic inflationary pressures are moderate; wage inflation is still moderate, so inflation should come back to around our 2% target sustainably, but I was concerned that if we provided additional stimulus we would overshoot by more and it would be harder to return inflation to target.
Q77 Stephen Hammond: Just on that very last point, you talked about wage inflation. In that, there must be a calculation that the depreciation in sterling is likely to cause some quite severe real wage pressures in this economy as well.
Professor Forbes: That we will see. Wage inflation has been very gradually picking up, but it is still only at about 2.4% as of the last three months’ data that we have information for. In the past, one reason we believe that wage inflation has been slow to pick up despite the fairly tight labour market is because of low headline inflation, so now, as headline inflation picks up, we would expect that to feed through into faster wage gains.
However, that may take time, and if that is combined with uncertainty about the future or an increase in unemployment you may not see wages pick up that quickly, despite the pickup in overall inflation. That is one of the factors I would like to wait and watch carefully, before deciding whether additional stimulus is merited.
Q78 Stephen Hammond: If I take your answer from your concern, broadly it is the classic economist’s position that you should not take too much notice of one month’s figures. Although you are not against the overall thrust that there is likely to be some slowing in the economy, it is just the scale and size of that that you were concerned about.
Professor Forbes: Related to that, the transition that the economy will go through over the next few years as we adjust to new trading regimes will be a prolonged process. There is a tremendous amount of renegotiations that need to happen. There could be some major structural shifts in the economy. This will be a long adjustment process, so I saw merits in waiting to get a better sense of the trade‑off between demand, supply and inflationary pressures, and not using additional tools if not needed.
Q79 Stephen Hammond: Should we also read the fact that you voted against corporate bond purchases against the citation that, pound for pound, that was likely to produce more of a stimulus, given your worry about the stimulus anyway? Are there additional risks or other risks with bond purchases that you are particularly concerned about?
Professor Forbes: In terms of the corporate bond scheme, I saw benefits and costs. It could have a bigger impact, pound for pound; I also think it could have a bigger impact simply from the announcement effect. It is a new programme that has not been done before. It shows creative thinking by the Bank. That is a powerful tool, and I would have preferred to wait to use that tool if we were hit by a negative shock in the future.
I am also concerned about some of the risks as we start to buy individual corporate bonds. We are going to be very careful, as others on this table have said, about not making allocative decisions and trying to buy corporate bonds in a neutral way, but inevitably we may end up buying some bonds of companies about which there will be some bad headlines, and I worried about taking on some of that additional risk.
Q80 Stephen Hammond: But the issuance of the market is not neutral, so you cannot actually have a neutral buying policy, can you?
Professor Forbes: We are largely relying on the market to assess who is able to issue and who is a safe credit risk, and using that as one of the factors we consider when we make our neutral decisions.
Q81 Chair: So you are relying on the risk‑rating agencies.
Professor Forbes: Yes. Again, I do not want to get ahead of our announcement on exactly how we will do it.
Dr Carney: We are buying, if I may, not to the extent of “We want a certain number of AA or A or BBB.” If they are investment grade, make a material contribution to the UK and are non‑financial, they are scoped in.
Q82 Chair: In any case, you will send us some more information.
Dr Carney: Yes.
Q83 Stephen Hammond: Professor Forbes, I noted your comment that monetary tools are not limitless. Where are we in the scale of monetary policy running out of ammunition?
Professor Forbes: If anything, our package should affirm that we do have more tools. We have four tools that we have recently used and we could ease further on each of those, but these are some of the easier tools to use for monetary policy. The transition process could be a prolonged process and there could be some other major negative shocks that emerge.
Mr Mann discussed risks in the eurozone. Ever since I have been on the MPC over the last two years, there have been shocks emerging abroad which present material risks to the UK forecast. It is very hard to predict what will happen. I am a believer in not using tools but saving them because there are shocks that emerge, unless the benefits clearly outweigh the costs, and at this point I did not think that they did.
Q84 Stephen Hammond: Could you give the Committee some sense of how long you see that transition risk? Presumably the domestic risk you are talking about is structural change in industry.
Professor Forbes: That will depend on how long it takes to renegotiate our trade agreements and to have more clarity on what the new trade agreements will look like. That is very much a decision of the Government. We will watch carefully and we will continually adjust our forecasts based on what we learn.
Q85 Stephen Hammond: Governor, I can take it, following on from Professor Forbes’s answer, that you would concur that there are plenty of tools left in terms of the monetary policy armoury?
Dr Carney: Yes, we have tools. We are very much not out of ammunition; nor are we trigger‑happy. We are not looking to use tools for the sake of using tools. We will calibrate monetary policy as we each individually think appropriate at the time and take those decisions.
Q86 Chair: What are the other tools?
Dr Carney: As Professor Forbes just indicated and as our decision just indicated, we have at least four; that is not a bad start.
Q87 Chair: You have ruled out helicopter money, have you not?
Dr Carney: I am certainly personally happy to rule out helicopter money, yes.
Q88 Chair: What about the rest of the MPC? You are happy to rule out helicopter money, are you, Dr Vlieghe?
Dr Vlieghe: No, I am not happy to rule anything out. What I have said before on helicopter money is that, if you think through all the mechanics of it, it is a fiscal operation. Somebody at some point may decide to do it, but it will not be an MPC decision. It is not for me to say whether it will or will not happen. What I can say is that I cannot imagine the discussion where we, the MPC, will sit around and say, “Are we going to vote for this?” because it is a fiscal operation and it is an operation that gives up monetary control. I do not see that we do that.
Q89 Chair: It might be MPC advice.
Dr Vlieghe: It just is not within our remit.
Q90 Chair: Professor Forbes, how do you feel about helicopter money?
Professor Forbes: This time I did not support bond purchases, so I am quite far away from supporting helicopter money.
Q91 Chair: That is useful to know. Sir Jon?
Sir Jon Cunliffe: I think in this world you never say never, but to me it is completely outside my thinking at the moment.
Q92 Wes Streeting: One of the tensions that have been thrown up by the Brexit vote is the tension between, on the one hand, needing certainty as soon as possible to reassure the economy and give everyone a sense of direction about where we are heading; and on the other hand not rushing headlong into triggering Article 50 before the Government have a clear negotiation position and a sense of what they want to achieve. Sir Jon, we have observed before that you are almost uniquely placed, given your experience. You have an almost unique perspective, given your current role but also your previous life, in addressing that tension between the need for certainty and the need to get the right deal for Britain. By which point do you think the Government really ought to trigger Article 50?
Sir Jon Cunliffe: I do not think that I am uniquely placed.
Wes Streeting: I said “almost” uniquely placed.
Sir Jon Cunliffe: I do not think I am even almost uniquely placed. These are very much decisions for Government. One has to be in the negotiations, in the discussions. There are clearly trade‑offs to be made here, as you pointed out, but I do not think from the position of an MPC member I am placed to give an opinion on how the Government make those trade‑offs. They are essentially deeply political decisions.
Q93 Chair: You may be very well placed to judge, but you might not be so well placed to say what you are thinking publicly.
Sir Jon Cunliffe: It is not something that I see as part of my function on the MPC.
Q94 Wes Streeting: I am disappointed that you did not take up my enticing offer to give the Government some advice and cause some waves. Let us bring this firmly back within the scope of the MPC, in that case. Whatever the virtues or otherwise of the delay in triggering Article 50 and the Government determining their position, the absence of a detailed plan for Britain’s post‑Brexit economic relationship must make it difficult for the MPC to forecast a medium‑term outlook, particularly on the supply side of the economy. Given that challenge, how is the MPC going about addressing it?
Dr Carney: First off, I totally associate myself with what Sir Jon said to your first question. Secondly, we have made a judgment as a Committee that, by the end of the forecast horizon, the UK economy at that point—and I would stress at that point—will be somewhat less open than it is today. We are not making a judgment about any model of interaction with Europe, whether it is EEA, WTO, bespoke deal, etc. We are not making any judgment around that, but it is somewhat less open.
In making that judgment, it is akin to saying that new trade deals that are being contemplated are not yet signed to counterbalance some reduction in terms of openness with Europe, which is part and parcel of a broader new relationship, addressing issues around migration, the European Court of Justice, the budget and other factors. That is the approach we have taken. That has an implication for the supply capacity of the economy, and therefore the relative weight of inflationary pressures through the forecast horizon, given what we think will happen to demand over the course of the next several years.
That is how we have addressed it: we have addressed it at a very macro level, taken a direction in terms of being somewhat less open but not picked a specific model. From a forecast perspective, we deal in quarters, so in the quarters ahead the range of possibilities and timelines will become clearer. I would be surprised if we did not adjust both aspects of those, the timeline and the degree, but we will do that in tandem with information that everyone else has.
Q95 Wes Streeting: I am interested in your answer because, effectively, the inflation report says that the projections in the report are conditioned on the average of a range of possible outcomes. You have reinforced that point with the answer you have just given. On that basis, the forecast is almost certain to turn out to be wrong, is it not? On that basis, I wondered whether you had considered the merits of publishing your assessment of the impacts of different outcomes of Brexit, rather than an average. You have clearly done the work to produce an average, and I think that work is quite important in not just forming the Government’s approach to renegotiation, but also parliamentary scrutiny of the process.
Dr Carney: We produce analytics for the purpose of managing monetary policy, not for the purpose of other decisions, whether fiscal or structural decisions or issues as fundamental as this. That is why we did not do a forecast of alternate scenarios in the run‑up to the referendum. There were a lot of calls for it, in the short, medium and long term. We always resisted those, and I think we would continue to do so today. I would say as well that, as the Prime Minister and others have indicated, the future arrangement between the UK and Europe will not likely be a pre‑existing model. It will be a bespoke arrangement that is consistent with the UK’s weight and interests and Europe’s interests. It is outside our remit, but even if it were in remit it would have some limited utility relative to what would be contemplated and ultimately proposed.
Q96 Wes Streeting: So you would not be minded to share the breakdown of the analyses of the committee.
Dr Carney: No, and I also would not overestimate this. We have done a macro assessment of broad levels of openness, which have implications for supply. We have taken an average; in our view, obviously we think it is a reasonable average. We fully recognise that there are some big judgments in that: timing of exit from Europe, timing of taking into effect trade deals with the rest of the world, and we have looked at a lot of sensitivities around that. It is one of the reasons why the error or confidence bands around the forecast are wider than normal.
We, like everyone else, will learn as this process unfolds, and we will be transparent if we adjust that supply expectation at the terminal point. You know this, Mr Streeting, but I would stress that our judgment of supply at the end of our forecast—in other words three years—is not a judgment of long‑term potential of this economy. It is very much still in the mode of transition to a new set of relationships.
Q97 Wes Streeting: Let me turn then to the inflation target itself. The MPC has an inflation target of 2%. The result of the August stimulus package will be to raise inflation above that for as far as you are forecasting ahead.
Dr Carney: Yes.
Q98 Wes Streeting: Given that, does the target really have any credibility? For the forecasting period, you have no intention of hitting it. There does not seem to be a limit as to how much the MPC can extend its target horizon. How can a target be credible without a time limit?
Dr Carney: There are a couple of things to say. One of them was contained in part of Professor Forbes’s previous answer, which is what is causing inflation to exceed the target at year three in the forecast horizon. All of that is exchange rate pass‑through. What happens just offstage, in our judgment, is that exchange rate pass‑through, from the depreciation that Professor Forbes referenced, the 16% cumulative, drops off and then inflation is actually below target, offstage.
It is a judgment about running tighter policy in order to bring inflation back to target and then have it fall below target, given what we know. That is the first point. The second is that under our remit we are charged with managing excess volatility in output and unemployment. In the case here, one representation of the difference between not acting and acting is the difference between the constant rate forecast in the May inflation report, where rates stay the same, and the package that we put in place in the inflation report. The impact of that on employment between the two is almost half a million jobs.
Again, when the committee sits down, we are not targeting full employment; the Chair rightly made that challenge earlier. However, when we look at that relative trade‑off, do we accept that much higher level of unemployment to get inflation exactly back to target and then have it fall below offstage, or do we accept a longer period of return, provide the stimulus, help with the adjustment? That was the judgment of the committee. We had different views in terms of how much stimulus should be provided, but we all felt that in making that trade‑off we should provide some stimulus.
I would add, from a credibility perspective and importantly from a market perspective, in the run‑up to the package, inflation expectations were drifting down below levels consistent with hitting the inflation target. By our actions, we brought them back up to levels more consistent with meeting the inflation target, so the anchor is still there in our judgment.
Q99 Mr Baker: I have just observed that the same naïve inflationists who persuaded the leader of the Labour Party to adopt the policy of “people’s QE” will have heard your answers to the Chairman about helicopter money, and they will have heard the conversation about distributional analysis when you talked about the ideal tool to stimulate the economy everywhere. Professor Forbes, I would like to ask whether you would agree with me that an advance down that route would be a grave menace to our economy.
Professor Forbes: I would not use those exact words, but I do not support helicopter money at this point. I also share Jon’s view that we would never say never. We never know how the world evolves, but it is hard for me to imagine circumstances in which I would support helicopter money.
Q100 Mr Baker: What are we to say to those people who think the answer is to keep on printing money and giving it to everyone?
Chair: We will not have a long discussion. If you have a brief reply, have a go.
Dr Carney: To be absolutely clear, I would not support helicopter money on the MPC. I would never support it. I am saying never.
Q101 Chair: I just have a couple of questions I just want to clarify—one in particular. In your letter to the Chancellor, Governor, you say—and it is quite interesting—there will be “enhanced oversight arrangements” by the Treasury of the asset purchases. Tucked in there too are a couple of further phrases, and I think it is worth reading them out: “The Bank will provide Treasury officials”—and I note that it says “officials”—“with enhanced information to allow them to monitor the operation and financial performance of the facility. There will also be the opportunity for HMT to provide views to the MPC on the design of the TFS and private sector asset purchases, in light of their broader economic objectives.”
It looks as if the corporate bonds and the TFS are coming up for particular attention from the Treasury. Did this originate with a conversation with the Chancellor, or did this request for enhanced information come via officials?
Dr Carney: The Chancellor and I discussed it. I am sure officials discussed it as well, but he and I discussed it. This is consistent with your earlier line of questioning in terms of talking about the indemnity and the mechanics of it. We have further professionalised the oversight of the indemnity, and let me be clear about what this enhanced information is. We did not have an independent risk function at the Bank of England. We now have an independent risk function, which reports to a risk committee, which reports to the risk committee of Court, and Court as a whole, so there is that governance up through there.
As you would expect, that risk function looks at the risk on our balance sheet in a variety of ways, including the APF—I am getting to the point—
Chair: It is the APF that I am interested in.
Dr Carney: —in terms of sensitivity to interest rates, sensitivity to credit risk and other risk metrics. That risk information, which goes up through the governance channel of the Bank of England, will be available on a quarterly basis to Treasury officials, jointly with the Bank, to review, so they understand the risk.
Q102 Chair: How much of it can be put in the public domain?
Dr Carney: I do not know off the top of my head.
Q103 Chair: I think it would be helpful to have a look and, if you could, come back to us on that. Would you do that, Governor?
Dr Carney: I will have a look, yes, but what is in place is a more granular and detailed oversight by the Treasury of the risks associated with the indemnity. It is entirely appropriate. We also have two keys, because we have that oversight through Court. That is something the Chancellor and I discussed. Obviously officials discussed it, but we put it in place and we think it is appropriate.
Q104 Chair: I just think of juxtaposing that with the phrase you began this hearing with, which was that you were sailing through everything and you were serene about the decisions that you had been taking. Clearly, the Treasury are quite interested in some of these decisions that are being taken.
Dr Carney: You can only be serene if you are informed.
Chair: It will be our job to make sure that your serenity is warranted. Thank you very much for coming before us this afternoon.