elevated inflation<\/a> will raise inevitable questions about its purpose. <\/p>\nBank independence was announced by chancellor Gordon Brown in May 1997, immediately after the previous Labour government took office, and has mostly been seen as the great economic policy improvement of the modern era.<\/p>\n
For the first 25 years of independence, until May 2022, inflation averaged exactly 2 per cent, the current target, though there was some slippage towards the end. Not all the credit for low inflation could go to the Bank; it was helped a lot by the so-called China effect \u2014 that country\u2019s growing share of the global economy, which pushed down goods prices. Even so, Bank independence provided the UK with economic credibility.<\/p>\n
But in the more recent past, things have gone wrong, with an inflation average of 5.1 per cent over the past five years and 5.3 per cent since May 2022. Looking at the Bank\u2019s new forecasts, the five years leading up to the 30th anniversary of independence will show an inflation average of 5 per cent or more \u2014 well above the 2 per cent target.<\/p>\n
It is usual to attribute this failure \u2014 and it is a failure \u2014 to this decade\u2019s inflationary shocks, which include the pandemic recession and post-pandemic bounce, the trade and labour market frictions of Brexit, the Russian invasion of Ukraine, and now the US-Israel war with Iran. <\/p>\n
That inflationary impact may have been made worse by the decision to launch another aggressive round of quantitative easing (QE) in response to Covid. This was policymakers fighting the last war; QE was an appropriate response to the financial crisis of 2008-9, but not to Covid.<\/p>\n
Nobody would deny the effects of these inflationary shocks, but another perspective is offered in an important new book co-authored by the doyen of central banking economists, Charles Goodhart, as he approaches his 90th birthday. The book, The Unanchored Central Banker, written with Manoj Pradhan, is subtitled Demography, Fiscal Instability, and an Erosion of the Central Bank\u2019s Inflation-Fighting Ability.<\/p>\n
The book goes into much detail about demographic changes \u2014 ageing populations \u2014 putting pressure on the public finances, and how this links back to central banks.<\/p>\n
\u201cThrough little fault of their own, central banks face an erosion in their ability to fight inflation single-mindedly, as they have done in the past,\u201d it says. \u201cDemographic trends, accelerated by the pandemic and politics, will lead to a much greater deterioration in the government\u2019s fiscal position, rising real interest rates, and higher inflation that reflects domestic labour market headwinds. <\/p>\n
\u201cThe political pressures on central banks today may be public and extreme, but such pressure will remain part of the landscape beyond the current US administration.\u201d<\/p>\n
It all adds up to what economists describe as fiscal dominance. Government fiscal policy \u2014 tax and spending \u2014 forces decisions on central banks that make it hard, impossible even, to keep inflation under control.<\/p>\n
Or, as the authors put it: \u201cFiscal pressure will unanchor the central bank\u2019s single-minded pursuit of price stability \u2014 a freedom most central banks have enjoyed over the last few decades. Fiscal and political pressures will be placed on them to lower interest rates below the level deemed to be consistent with their inflation target \u2014 ie. a state of fiscal dominance.\u201d<\/p>\n
Goodhart and Pradhan\u2019s message will be reinforced by a lecture this Thursday at the London School of Economics: the\u00a0Fifth Annual Charles Goodhart Lecture, by Isabel Schnabel of the European Central Bank, a member of its executive board. Called \u201cThe quiet erosion of central bank independence\u201d, her talk will argue that it is not just in America, where Federal Reserve independence is under threat from Trump, that there is reason to worry.<\/p>\n
\u201cRising sovereign debt is quietly eroding the space within which monetary policy can operate effectively, increasing the risk of fiscal dominance,\u201d she will argue. \u201cSimultaneously, the renewed momentum for financial deregulation risks creating the conditions for financial dominance \u2014 the implicit prioritisation of financial stability over price stability.\u201d<\/p>\n
Worries about central bank independence are not new but have been building. In 2024, Stephen King, senior economic adviser to HSBC, wrote a paper, \u201cThe future of independent central banks\u2019.\u201d\u00a0<\/p>\n
In it, he wrote: \u201cA combination of disappointing inflationary outcomes, much higher borrowing costs, unstable fiscal positions and heightened political uncertainty suggests full independence may be difficult to sustain. Such risks vary from country to country and from region to region, but, nevertheless, the relative institutional stability of recent years may be about to fade.\u201d<\/p>\n
The fears he set out then appear to be coming home to roost. Although the Bank of England is the second-oldest central bank in the world, after Sweden\u2019s Riksbank, the UK came late to the independence party. <\/p>\n
The golden age of UK independent central banking appears not to have lasted more than a quarter of a century.<\/p>\n
Or has it? In the end, the question must be asked about what is best for containing the pressures on fiscal policy, and for financial stability. The answer is the same one that led to Brown\u2019s decision to make the Bank independent in 1997. A low and stable rate of inflation of 2 per cent, on a sustained basis, is best for growth, for fiscal policy and for financial stability \u2014 and even for political stability. <\/p>\n
No politician should be allowed to get away with arguing that their central bank should set interest rates in a way that meets their short-term political needs rather than the inflation target, whether in the White House or anywhere else.<\/p>\n
That is why the Bank of England and other central banks should double down on their main mission, which some think should be their only mission: keeping inflation under tight control. A run of inflationary shocks makes that difficult, but should not make it impossible. <\/p>\n
Otherwise, they will not deserve to keep their independence.<\/p>\n
PS<\/p>\n
Population projections are always interesting, and the latest from the Office for National Statistics (ONS) certainly are. It forecast is for a rise in the UK population to 71 million by mid-2034, 1.2 million less than in its previous projection. The increase from the 69.3 million population estimate of mid-2024 is thus now 1.7 million, or 2.5 per cent. It is more than accounted for by a 2.2 million rise in net migration, offset by a 450,000 natural population decline, with more deaths than births.<\/p>\n
The net migration figure, lower than previously projected, fits in with the latest official figures, which showed a net inflow of 204,000 in the 12 months to June last year. It is clearly possible, depending on what happens to migration policy, that the figure could be lower or higher than this, with the bias towards lower.<\/p>\n
What struck me most, though, was that the ONS now thinks the UK\u2019s population \u2014 which is getting older, with a near 15 per cent increase in the population of pensionable age by 2034 \u2014 will peak in less than 30 years\u2019 time and then decline. The peak is put at 72.5 million in 2054.<\/p>\n
This jumped out at me, because in a book of mine, Something Will Turn Up, written in the mid-2010s, I referred to the then official projections of continued strong UK population growth, which would leave France and Germany in their wake. Then, the ONS\u2019s projections were for 74.3 million by 2039 and 88 million in 2089 \u2014 over 15 million, or 21 per cent, more than the peak now expected. <\/p>\n
Even in demographics, things can change dramatically.<\/p>\n
david.smith@sunday-times.co.uk<\/p>\n","protected":false},"excerpt":{"rendered":"Eight times a year, at noon on a Thursday, a familiar ritual occurs. The Bank of England announces…\n","protected":false},"author":2,"featured_media":27353,"comment_status":"","ping_status":"","sticky":false,"template":"","format":"standard","meta":{"footnotes":""},"categories":[2],"tags":[13],"class_list":{"0":"post-27352","1":"post","2":"type-post","3":"status-publish","4":"format-standard","5":"has-post-thumbnail","7":"category-britain","8":"tag-britain"},"share_on_mastodon":{"url":"https:\/\/pubeurope.com\/@UnitedKingdom\/116506936096671963","error":""},"_links":{"self":[{"href":"https:\/\/www.europesays.com\/britain\/wp-json\/wp\/v2\/posts\/27352","targetHints":{"allow":["GET"]}}],"collection":[{"href":"https:\/\/www.europesays.com\/britain\/wp-json\/wp\/v2\/posts"}],"about":[{"href":"https:\/\/www.europesays.com\/britain\/wp-json\/wp\/v2\/types\/post"}],"author":[{"embeddable":true,"href":"https:\/\/www.europesays.com\/britain\/wp-json\/wp\/v2\/users\/2"}],"replies":[{"embeddable":true,"href":"https:\/\/www.europesays.com\/britain\/wp-json\/wp\/v2\/comments?post=27352"}],"version-history":[{"count":0,"href":"https:\/\/www.europesays.com\/britain\/wp-json\/wp\/v2\/posts\/27352\/revisions"}],"wp:featuredmedia":[{"embeddable":true,"href":"https:\/\/www.europesays.com\/britain\/wp-json\/wp\/v2\/media\/27353"}],"wp:attachment":[{"href":"https:\/\/www.europesays.com\/britain\/wp-json\/wp\/v2\/media?parent=27352"}],"wp:term":[{"taxonomy":"category","embeddable":true,"href":"https:\/\/www.europesays.com\/britain\/wp-json\/wp\/v2\/categories?post=27352"},{"taxonomy":"post_tag","embeddable":true,"href":"https:\/\/www.europesays.com\/britain\/wp-json\/wp\/v2\/tags?post=27352"}],"curies":[{"name":"wp","href":"https:\/\/api.w.org\/{rel}","templated":true}]}}