Charlie Bean: The Beatings Are Necessary to Improve Morale
Bank of England Deputy Governor Charlie Bean has endorsed both Chief Economist Spencer Dale’s liquidationist stance, and the Mervyn King/Masaaki Shirakawa view on how monetary policy “brings forward” spending from the future. What better team to run UK demand policy could we possibly hope for?
Bean’s speech this week says that because households “need” to deleverage, and we “need” to rebalance to export rather than domestic demand:
… considerable real adjustments are called for. These real adjustments – balance sheet repair and the sectoral reallocation of resources – inevitably take time. It is against this background that monetary policy needs to be set. On the one hand, a highly stimulatory policy stance can encourage households and businesses to bring forward expenditure, boosting demand and mitigating the destruction of the economy’s supply capacity that can result from a prolonged period of weak demand as firms are driven out of business and the skills of unemployed workers atrophy. On the other hand, such policy can also delay the transition to a new growth path if it slows the process of balance sheet repair and inhibits the process of ‘creative destruction’ as unprofitable firms are closed and the liberated resources shifted to the expanding sectors.
My emphasis. Note the “bring forward expenditure” phrase used by King and Shirikawa.
But the big point here: Bean is saying that weak demand growth is a good thing, because we need more liquidation of capital! Not too weak, mind – that might really do some harm. But fast(er) demand growth would be risky, because we need to force the correct number of firms into liquidation, heralding the sunlit uplands of sustainable growth. Will a big light start flashing above Threadneedle Street when we reach that point, I wonder?
Bean also blames the dreaded “uncertainty” for the weakness of demand:
Looser monetary policy works in large part by encouraging households and businesses to bring forward future spending to the present. It is plausible, however, that such intertemporal substitution will be weaker when uncertainty is elevated and when banks and some households are concentrating on repairing their balance sheets. For instance, a modest fall in the cost of capital may do little to boost investment spending when the environment is so dominated by uncertainty about the outlook for demand.
Yet later on, he jumps into the “gilt cancellation” debate, and says:
Cancelling the gilts would deprive the Bank of the assets it needs to sell back to the market in order to suck the bank reserves out when the time comes to unwind the policy. It would also deprive the Bank of the wherewithal to pay the interest on the reserves in the mean time, so we would need either to keep Bank Rate perpetually at zero or else be willing to continue issuing additional reserves indefinitely in order to meet our obligations. One can easily see how this would eventually lead to inflation taking off.
How can you reconcile those views? “One can easily see”? This is Bean laughing away the proposition that the central bank would be unable to raise inflation (and logically hence nominal spending) by holding down interest rates and printing too much money. That’s a view which has a role for money in the conduct of monetary policy. Yet if you can only “bring forward” spending with monetary policy, it is hard to see how inflation can “take off”.
In any case, it is not really clear why one would want to go down the route of cancelling the gilts. In undertaking quantitative easing, we are, for a period, replacing part of the government gilt stock with a monetary liability paying Bank Rate; cancelling the gilts is tantamount to making that period indefinite. In contrast, under present arrangements, how long that period lasts will depend on macroeconomic conditions. The inflation target dictates that we should continue to buy gilts (or other assets), including reinvesting maturing gilts, so long as inflation is more likely than not to undershoot the inflation target in the medium term. And it also dictates that we should sell them when inflation is more likely than not to overshoot the target. Making gilt sales/purchases contingent on the economic environment must surely be the right way to set policy.
I roughly agree, except with the choice of nominal target. But another clear signal from our central bankers: yes, we really are targeting 2% inflation; no, the zero bound isn’t an impediment to hitting our nominal target; and no, we really don’t much care about growth, unemployment or other such trivialities.