Yesterday, the Resolution Foundation, a think tank that investigates living standards, hosted an event on the future of monetary policy. For the uninitiated – and those who don’t cultivate a niche enthusiasm for interest rates – monetary policy is the means through which the main authority of a country’s money supply controls that supply, primarily through setting interest and target inflation rates. Yesterday’s event used the hashtag #zerobound, referring to the fact that interest rates in the UK have been near zero since the global financial crisis.
This is a problem. At the so-called ‘Zero Lower Bound’, traditional methods of economic stimulus based on adjusting interest rates are no longer effective. After the 2008 crisis, the only remaining option for the UK’s central monetary authority, the Bank of England, was to implement Quantitative Easing (QE). This saw the Bank creating new money electronically and then using it to buy financial assets, thereby lowering the cost of borrowing and boosting spending to get the economy back on track.
Beyond the mechanics of interest rates and mortgage repayments, what makes this subject interesting to the public at large is the question it raises about how best to deal with crisis – both a financial crisis, and crisis more generally. The Resolution Foundation has recently assessed that there is a 2/3 chance of another recession within the next five years. A whole host of significant figures in macroeconomics have been flagging the warning signs of a potentially imminent crisis: an extremely slow recovery from the 2008 crash, worrying levels of household debt, the housing bubble, and continually low productivity. And those are just the warning signs within the UK; as NIESR’s Angus Armstrong pointed out, 70% of national inflation in OECD countries is determined by factors outside the respective country (ECB, 2005). We recently saw the impact that external markets can have on the UK economy when Chinese steel ‘dumping’ coincided with thousands of job losses at Tata Steel in the UK.
As such, the Resolution Foundation hosted this timely event to urge economists and policymakers to prepare for the eventuality of another crisis. Their chief economist, Matthew Whittaker, presented a number of options for public service:
- More Quantitative Easing — this is the tool the Bank of England would use if there was another crisis tomorrow, because there is a consensus that it was the right thing to do last time.
- Negative interest rates — this is already in place in Sweden and Switzerland (and Japan, as of this morning), for example; but may lead to a ‘currency war’ of continual competitive devaluations.
- Higher inflation targets — the problem here is that the UK is struggling to reach 2% already, and it’s not clear how 3% or even 4% could be reached.
- A more active fiscal policy – meaning more government involvement in the economy through taxation and public spending. This is a difficult option to take because of the political baggage that comes with government intervention.
- Structural reform — everyone agrees that strategies for growth and investment might tackle the structural decline of rates at the source. But, to quote Whittaker, ‘If it were easy we’d be doing it already’.
Most compelling, then, were the questions haunting the margins of the panel debate. As an economist, Whittaker admitted to being grateful that it was not his job to turn the economic data and forecasts into actual functional policy. He and other panel members, including the former Monetary Policy Committee member Kate Barker, strongly agreed that ‘The idea that there is some perfect policy out there if only we can find it is the biggest delusion of all’.
Historically, macroeconomic policy has undergone significant changes in the last century: from the Keynesian economics of the post-war era, reflected in the UK government’s more active taxation and spending policies, through the Bretton Woods system in which monetary relations between independent nations were fully negotiated and fixed, to the post-globalisation order in which most currencies are no longer tied to a standard and have become free-floating instead.
The 2008 financial crisis destabilised the global economy on an unprecedented level both because national economies are now increasingly interconnected, and because as a result of this, the optimum balance between monetary policy and fiscal policy is very difficult to find. As Angus Armstrong so strikingly asserted, we still ‘don’t understand a lot of what’s going on in the world economy’. It comes as no surprise, then, that the panel felt inadequately equipped to answer certain audience questions – for example how monetary policy can address gender inequality, climate change, and the predominance of the financial sector in the UK economy.
So the real question raised by the event was who will fill the vacuum of accountability that the global financial crisis left – when politicians in the executive are not experts, experts do not always have enough executive powers, and the cyclical recurrence of crises puts into question the very concept of economic expertise. The Bank of England’s response to the crisis through Quantitative Easing was an unconventional monetary policy to implement – but as Armstrong rightly pointed out, as the world changes, we need to continually adjust our monetary and macroeconomic framework as well. Yesterday’s event was an intervention designed to retain intellectual agility in a world where after the crisis may also be before the crisis.