Bank of England (Economic Affairs Committee Report) - Motion to Take Note

Part of the debate – in the House of Lords am 11:47 am ar 2 Mai 2024.

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Photo of Lord Bridges of Headley Lord Bridges of Headley Chair, Economic Affairs Committee, Chair, Economic Affairs Committee 11:47, 2 Mai 2024

My Lords, it gives me great pleasure to open this debate. I begin by thanking all members of the Economic Affairs Committee for their time, toil and commitment which went into producing our report, and our excellent clerk, our policy adviser, and our special adviser Professor Rosa Lastra. I also remind the House of my registered interest as an adviser to and shareholder in Banco Santander.

Our report aimed to answer a simple question about the Bank of England: how is independence working? We asked that partly because last year marked a quarter of a century since the Bank was granted operational independence over monetary policy—a decision that signified an enormous transfer of power from elected representatives to unelected officials. Since then, the Bank’s remit has grown. It has undertaken quantitative easing on a massive scale and inflation hit a 41-year high in October 2022, resulting in a loss of public confidence in Threadneedle Street. All this raises questions about the Bank’s accountability and performance. Accountability and performance are different, but clearly related. If an unaccountable body performs poorly, what then? Our committee thought it was time to kick the tyres and learn lessons. Our focus was primarily on monetary policy; we did not examine individual decisions, nor events.

Let me start with the Bank’s overall record on inflation; I stress “overall”. Inflation remained within 1% of the MPC’s target almost 90% of the time between 1997 and 2021. The precise contribution of independence to that record is difficult to quantify—we heard that globalisation contributed too—but we concluded that independence should be preserved for the simple reason, to quote one witness,

“that there is a greater likelihood of interest rates being adjusted for economic reasons, rather than to suit … political objectives”.

That said, we concluded that reforms are needed and I will highlight some of the reasons why.

The first is the Bank’s recent performance on inflation. Like many central banks, the Bank of England mistakenly thought that inflation was transitory. Possible reasons for this include a perceived lack of intellectual diversity in the Bank, as in other central banks, which contributed to insufficient challenge to modelling and forecasts. In particular, our committee was struck by the notable absence of any detailed discussions about money supply in the monetary policy reports. To quote one witness,

“money supply was ignored in a rather foolish fashion”.

The second reason we need reform is what has happened to the Bank’s remit, which, as I said, has ballooned. This complexity risks jeopardising the Bank’s ability to prioritise its primary objectives. The governor told us:

“It makes policy-making more complicated”.

Its sprawling remit risks drawing the Bank into the Government’s wider policy agenda, raising questions about accountability, which I will come on to.

Another reason we need reform is to address the blurring of monetary and fiscal policy thanks to quantitative easing. A powerful tool to combat the monetary contraction after the 2008 financial crisis, QE’s continued deployment since then swelled the Bank’s balance sheet to a record high of just under 50% of GDP and shortened the overall duration of the Government’s liabilities, increasing the vulnerability of the Government’s overall debt stock to movements in short-term rates.

Although the quantum of quantitative easing is a monetary policy decision, decisions on debt duration have consequences for debt management. Furthermore, and crucially, the taxpayer is on the hook for any losses incurred by the Bank thanks to QE. But the deed of indemnity—the contractual document between the Bank’s asset purchase facility and the Treasury—is secret. That all needs addressing.

That brings me to another reason we need reform: accountability. The growth in the Bank’s remit and QE have not been met with a commensurate increase in accountability and parliamentary scrutiny. A democratic deficit has emerged which risks undermining confidence in the Bank and its operational independence.

Given those reasons, we proposed a number of what I consider to be very reasonable steps to address all this. I shall not read out a long laundry list, but they included: pruning the Bank’s remit; reviewing hiring and appointments; a memorandum of understanding which clarifies how the interaction between monetary policy and debt management should operate; publishing the deed of indemnity; and a parliamentary review of the Bank’s remit and operations every five years. Our overarching point was simple: the framework for independence and the operations of the Bank need reform.

What was the response from the Bank and the Treasury? Let me start with our concerns around forecasting and the big issue of groupthink. As many Lords will know, the Court of the Bank of England commissioned the Bernanke review into its forecasting. That review, in itself, shows the benefit of challenge. The review’s findings were pretty scathing of the Bank’s approach to forecasting and recommended changes on which I am sure a number of noble Lords will want to comment. But the review did not go into any depth on the key issue of diversity of thought, for the simple reason that it was not included in the review’s remit. To my mind, this is odd. As the governor himself told us, the models are not like a “sausage machine”, in his words, but reflect people’s judgment. I agree with that; in fact, I would go further: the output of models are not tablets of stone. They might shape decisions, but they should not determine them. What is more, the Bernanke review’s tight remit specifically excluded looking at any past decisions or events, so it was really not set up to ask the basic question: what went wrong, and why?

What is being done to improve challenge and tackle groupthink? In the responses, we are pointed to dissenting votes on the MPC. This is obviously true, but it rather ignores the fact that, between March 2020 and September 2021, when inflation was rising, the MPC was, month after month, unanimous in its view that this rise was transitory. Next, we are told that no review of Bank appointments is necessary, as the Treasury is committed to diversity in public services in its appointments. But what kind of diversity? Is diversity reflected in the recent appointments to the Bank’s most senior positions? Might they suggest that the Treasury is the primary school for the Bank?

We are told that the MPC monitors monetary aggregates, so our recommendation, that there should be an analysis of their relevance to the Bank’s inflation outlook, was rejected. I am conscious that we might fall into the trap of groupthink that there is groupthink. However, having mulled over the evidence that we received, I think that our recommendations are measured, and that the response to them was—to be polite—somewhat defensive.

What of the other reasonable proposals we made, that the remits of the MPC and the FPC should be pruned? The Treasury’s written response states that:

“As both Committees have complex roles, it is right that their remit reflects this complexity”.

But the next paragraph says that it agrees that there is benefit in improving the clarity and focus of the remit letters—something the Chancellor confirmed to us a few weeks ago, when he told our committee that the Treasury “could probably do better” at simplification. However, he then pointed out that, despite his slimming down the remit as regards climate change, climate change objectives

“are bedded into what the Bank of England has to do anyway”.

I find all this slightly confusing, so I have a simple question for my noble friend the Minister: does the Treasury think that the remits are still too complex? Are we at the beginning, not the end, of the process of simplification?

Let me now turn to QE and QT. Both the Bank and the Treasury argue that we do not need a memorandum of understanding to clarify how the interaction between monetary policy and debt management should operate. I beg to differ. The taxpayer is ultimately bearing the risk of QE and the costs incurred, and decisions are being taken concerning huge sums of public money without regard to the usual value-for-money requirements—a position that the Treasury Select Committee in the other place concluded is “highly anomalous”. More clarity is needed.

That brings me to the need to publish the deed of indemnity. The governor told us:

“I could not see anything in it … that I think would excite people if it were published, but it is not my decision—it is the Treasury’s”.

Yet the Treasury’s response says that the document should not be published because it contains “market sensitivities” and

“operationally sensitive information relating to QE”,

which risks

“undermining the transparency of the APF”.

The Bank and the Treasury appear to be at odds on this. In my simple mind, either this document will not excite people, or it contains market-sensitive information which will. Can the Minister tell us who is right—the Governor or the Chancellor? But the bigger point is this: given that the taxpayer is bearing the cost of QE, Parliament should surely be told how the relationship between the Treasury and the Bank works and who is responsible for taking what decisions and on what grounds.

That brings me to the final issue: parliamentary accountability. Operational independence should mean just that: politicians stay out of the Bank’s day-to-day decisions. But how often does Parliament debate the Bank’s overall performance, its remit letters or issues such as QE and QT? The answer is: not much. Our focus here in Parliament is largely on fiscal policy, not monetary policy—the Treasury in the City of Westminster, not the Bank in the City of London. We need to address that democratic deficit. An overarching review of the Bank’s remit every five years, as our committee recommended, would not undermine independence but strengthen it. Such a review could look at one of the other big issues: the inflation target itself, on which we heard conflicting views as to whether 2% is the right target.

Another question a parliamentary review could consider is whether we have the right balance between accountability and independence with regard to the appointments of the most senior Bank officials and their tenure and reappointment. As I said at the start, when things go wrong, does Parliament really have sufficient means to hold the Bank’s leadership to account?

The Bank and the Treasury are staffed by many professional, committed public servants. I certainly do not want to trash either institution, but I fear that the tone of the Bank’s and the Treasury’s responses to our report and its reasonable recommendations reminded me of a policeman at the scene of a crash. Concerned onlookers want to know what has happened and why, but the policeman politely shuffles them off, saying, “Nothing to see here. Just an unfortunate incident. Move along, please”. Well, I am staying put. Yes, operational independence should be preserved, but reforms are needed.