The Virtues of Self-Restraint
Op-ed in Central Banking (XVII: 4)
One of the greatest strengths of the Bank of England's regime since independence has been its narrowness of mission. The bank is there to deliver price stability over the medium-term, subject to due concern for short-term output volatility and financial instability, full stop. It no longer is concerned with financial supervision writ broadly, and it is not an ongoing contributor to public debates outside its monetary policy remit.
With focus comes clarity. Both internally and externally, the concentration of the bank on its core role has given it greater authority to carry out its monetary policy mandate. Internally, there is little question about priorities, and thus little waste of resources or nonsubstantive disagreements. Externally, this strengthens the anchoring of inflation expectations and reinforces the bank's independence because it distances the bank from extraneous or political disputes. On both fronts, clarity of mission has enhanced the sense of accountability of the bank for its performance of that mission.
The bank's narrowing of focus has hardly been uncontroversial. Some have expressed concern that independence has constrained senior bank officials' ability to make valuable public comments on other areas of economic policy. Others have a judoesque worry that somehow the bank's wresting of independence from Her Majesty's Treasury has given the Chancellor more autonomy on fiscal policy and financial matters.
Politicians abroad have tried to prevent other central banks from following the bank's example in this regard. When Ben Bernanke made some noises in this direction upon his nomination to be Federal Reserve Chairman in December 2005, that he would be more restrained in his statements on nonmonetary issues than his predecessor, a number of US senators from both parties publicly asked him to reconsider.
Yet, these fears have proven unfounded in the United Kingdom over the last decade. This is best illustrated by the bank's consciously limited role in the 2002-03 discussion of whether the Chancellor's "Five Tests" for euro entry were met. There was a very lively public debate on all aspects of the tests, including whether they were the right ones; the bank's staff contributed technical expertise to The Treasury's evaluation but was not seen as making any judgments or taking any stands; inflation expectations and market stability were unaffected by this debate, in large measure because it was clear the bank's monetary decision making was not distracted by the euro entry issue; the Chancellor and the elected Labour government were correctly held accountable for the decision without interference from unelected "Mandarins," and the bank suffered no politicization or pressure as a result. This salutary outcome is something which is difficult to imagine would have been possible in the days before independence, say in 1992.
The places where central banks are called upon to weigh in on a host of issues beyond monetary policy are almost always those where the economic policy apparatus is seen as untrustworthy or incapable. So, in less developed countries where there was often a lack of economic expertise and of uncorrupted administrators, the governor and staff of the central bank would be the one place that well-intentioned politicians, markets, and outside lenders like the International Monetary Fund and World Bank could turn.
Similarly, even in advanced economies, where political instability made government commitments (particularly on fiscal policy) less than credible, the central bank and its presumably apolitical staff would become a source of economic conscience-as seen in the role of the Banca d'Italia in the 1980s and early 1990s. In short, a broadly active central bank is a marker of weakness in an economy's policymaking.
The Bank of England's focus since independence on its core competency and mission of monetary policy is thus a sign of the United Kingdom's economic strength and political credibility. To the bank's, and in particular the current Governor, Mervyn King's, credit, the concentration on what monetary policy can and cannot do has been the result of enlightened self-restraint-it was not the inevitable result of independence. It was the bank itself that initiated shedding its bank supervisory responsibility, and it has been Governor King and successive Monetary Policy Committees that have restrained their own interjections into policy issues outside their core mission.
That virtuous self-restraint has paid off. For the bank, it has meant further insulation from political pressure because of its increased reputation for nonpartisanship and its obvious lack of desire to extend its range of influence. For the UK policymaking process as a whole, it has set a standard of discipline, clarity, and accountability that has caused the rest of the government to raise its game. As I argued when the trend for central bank independence began, independence will only be sustained where the central bank builds a constituency in civil society supporting that autonomy1 -and the Bank of England's clarity of mission has built that constituency, while delivering price stability, in a way that other European central banks currently under attack can only envy.
1. Posen, Adam S. 1993. Why Central Bank Independence Does Not Cause Low Inflation: There is no Institutional Fix for Politics. In Finance and the International Economy: 7 , ed. Richard O'Brien. Oxford: Oxford University Press, 40-65.