Andrew Haldane, after more than three decades at the Bank of England, is going to foray into the world of art. His ‘goodbye’ speech delivered on the 30th June is as impressive as the man’s three-decade experience has been. His career is the dream of many who aspire to be in public policy. He has played a hand in monetary policy, in regulation, in forecasting. His speeches, particularly after the 2008 financial crisis, touched upon all aspects of modern finance and banking. His speeches were the equivalent of well-researched papers with lots of references, charts and data tables.
He also covered a wide array of topics in his speeches. Also, he made it a point to speak at many forums within the UK – from professional bodies to schools to colleges to labour union forums. He supported the initiative of students at the University of Manchester to refashion the economics curriculum. It did not bear fruit. But, he saw the need for addressing the problem at its roots – namely, economics education.
My disappointment – and it is a big one – with him is with respect to his attitude towards the ultra-loose monetary policy post-2008, especially its prolonged application, unmindful of effects, costs and unintended consequences. At the minimum, these needed to be assessed, estimated, discussed, considered and then accepted as premises for policy changes or continuity. Nothing of that sort was done in the UK or in the US. Considering how thoughtful he has been in many other areas, his failure reflected a stubborn and somewhat inexplicable blindspot, as far as I am concerned. Unfortunately, that comes through in the farewell speech as well. But, there are many, many useful elements as well.
I will copy and paste the interesting and controversial portions (in my view) with my comments below them:
At the end of this exhaustive process, the forecasts were sent around the Bank, as well as to HM Treasury.
There, I have it on good authority, they quickly became landfill (as recycling wasn’t an option at the time). Like the UK’s entry at Eurovision, the Bank economists’ contribution was spirited but ultimately pointless. The Bank’s analytical brain did not connect to any hands. John Kenneth Galbraith said that economics was extremely useful as a form of employment for economists. At the time, that was the Bank’s view too.
He is describing the process and the conclusion of the exercise of forecasting M4, money supply, for the UK. This is quite realistic and down-to-earth with a good touch of humour.
With my bag of nerves now full to overflowing, I peered through the fog of Rothmans to see Eddie staring back at me. Both eyebrows were raised. This was bad news. In central bank circles at the time, the double eyebrows was career-defining for all of the wrong reasons. Most of my subsequent 25-years has been managing that decline as gracefully as possible.
That is typical classic British understatement and humour combined. He is referring to the technological glitch that greeted his first presentation to the Bank of England’s monetary policy committee – the pre-MPC presentation made by the Economics Department. Eddie George was the Governor and smoking cigars in closed rooms was then permitted. Of course, Haldane’s career was anything but managing a graceful decline over a quarter century.
On the nominal anchor for monetary policy:
It is no coincidence that durability in monetary policy processes has been accompanied by improved
macro-economic outcomes. Since 1992, inflation has averaged 2% – exactly in line with target (to one decimal place) and 6 percentage points lower than in the preceding 25 years. The volatility of output has fallen by around half over the same period.footnote Contrary to everyone’s expectations, inflation-targeting has lasted and delivered a twin-win, with greater stability on both the nominal and real sides of the economy.footnote Given the UK’s previously chequered monetary history, this truly is a transformation.
Of course, there is a question about how much of this improved performance reflects good luck rather than good monetary management.
This is a huge disappointment although there is a small concession to honesty and intellectual openness in his contemplation of a possible role for good luck in ensuring ‘good macro-economic outcomes’. Second, what are good ‘macro-economic outcomes’. Is it just low and stable inflation rate? Did he not find out enough in the post-2008 research of the role played by leverage accumulated by financial institutions in precipitating and aggravating the crisis? If post-crisis efforts have attenuated the leverage in regulated entities (as he points out later), does it mean that the problem has been solved?
He, of all people, should know that if the price of debt is kept too low for too long, taking out all considerations of risk, the leverage does not vanish but goes elsewhere and possibly hidden, just as it was the case with financial institutions pre-2008 through opaque structures. Now, it must be hidden in some other crevices. Lack of acknowledgement of that possibility – a very high likelihood, in fact – is puzzling, to say the least.
In the next two pages (text of his speech), he details his concerns and reservations over the current monetary policy accommodation, post-Covid. Again, he states his concerns with inflation turning out to be higher and persistent. For a man who was the director in charge of financial stability, his apparent lack of concern over financial stability risks is remarkable. Perhaps, he knows more than I do about the state of play on financial stability in England and that he is very confident about it not being an issue. Perhaps. Nonetheless, it strikes me as odd and as a serious omission.
In any case, his inflationary concerns were well documented in his article for the ‘New Statesman’. See here.
He gets closer to the real risks in this paragraph but not quite:
A dependency culture around cheap money has emerged over the past decade. Only a minority of those with mortgages have ever experienced a rise in borrowing costs. Fewer still have significant inflation in their lived experience. Easy money is always an easier decision than tight money. But an asymmetric monetary policy reaction function is a recipe for a Minsky mistake. Having followed the right script on the way in, central banks now need to follow a different script on the way out to avoid putting 30 years of progress at risk.
The reason why he is not where he should be is because of this: what is happening now with the post-Covid response is a logical culmination of what was done post-2008. He should have seen this coming. The lesson that policymakers have drawn from the post-2008 policy response is that it was not enough. The dosage was weak, in their assessment. So, now they have upped it massively. They never have bothered to contemplate if it was the right medicine at all and if it was right to administer it for more than short-term demand management and to facilitate immediate recovery. Andy Haldane does not contemplate this question seriously either.
On financial stability:
I wrote a note and sent it to the Governors in 2005. It was titled “Public Policy in an Era of Super-Systemic Risk”. It made some bold claims about financial system resilience, most of which jarred with the prevailing orthodoxy…..I am still waiting for comments on my 2005 memo. With hindsight, one of my career regrets was not to make more of the results until it was too late. …As best I can tell, no-one got the crisis completely right, despite a number of people subsequently exhibiting supernatural powers of hindsight. Rather, the crisis illustrated the limits of our collective knowledge, our collective lack of imagination. It demonstrated that, in a world of uncertainty as distinct from risk, it is better to be super-safe ex-ante than super-sorry ex-post, better to be roughly right than precisely wrong.
Nice touch again on people with super-natural powers of hindsight. That apart, the certitude with respect to the application of post-2008 crisis monetary accommodation is at odds with the ‘limits of our collective knowledge’.
When UK banks were finally recapitalised that Autumn, around £65 billion was injected into them by the UK Government. Our calculations had been roughly right, good enough to save the ship. To this day, I believe that if greater amounts had been injected then – perhaps £100 billion? – UK banks would have been more willing to lend and the recovery would have been less anaemic. It would have been better to be super-safe ex-ante than super-sorry ex-post.
I wonder if this lesson has been lost on India since it continues to grapple with anaemic credit growth.
On Macro-prudential regulation:
The macro signalled two important ideological shifts from the past. First, banking needed to be managed at the level of the system as a whole, like any other eco-system. Second, as important as the resilience of the financial system was its interaction with the macro-economy to avoid adverse feedback effects between the two, such as credit crunches. Finance was to be servant of the economy, not master. This, truly, was a regulatory revolution.
He is making some important points. Finance sector interaction with the macroeconomy has been ignored for the better part of the last four decades. Before that it did not matter because finance was mostly bank-driven and banks were tightly regulated. But, once the underlying arrangement changed, regulation was far too slow to catch up. Indeed, the zeitgeist, 1980s onwards was no-or-lite regulation as the markets knew best. So, there was no question of regulation catching up at all. It was simply not in the race.
But, interaction with the macroeconomy is not just about credit crunches but also about credit excesses. Indeed, the latter has been a bigger problem leading to instability. Credit crunch is about risk aversion on the part of lenders and borrowers. Time overcomes them or higher bank capital or both. His omission of ‘credit excesses’ is conspicuous. It is very important that he mentions that finance has to be the servant of the economy and not the other way around. He deserves a shout-out for that. But, is it? To what extent post-2008 policies achieved that? Even if regulatory policy tried to establish that order, to what extent did monetary policy undermine that? Not only he does not pose those questions here but he has avoided them for the most part or, as far as I can remember, throughout the last decade.
I wonder whether central banks ignoring the quantity of money since the Eighties has also contributed to the problem of ignoring the feedback role of credit for the macroeconomy.
As you did not fight fire with fire, you did not fight financial complexity with regulatory complexity. That risked making a bad situation worse, a complexity problem squared rather than halved.
As a matter of principle, this is an important one to keep in mind. But, the devil is in the details or that the satan is in the specifics.
In the UK, the Vickers Commission reforms created a fire-break between banks’ services to the domestic economy and their other activities.
This too deserves praise. The UK might have done better than the USA in this regard.
The Global Financial Crisis had laid bare the costs of separating finance and the economy, the micro and macro – a separation that had also been a feature of the Bank in the past. Crisis needed to be the catalyst for change, forging a link between the Bank’s analytical brain and its regulatory hands.
The Financial Stability reports that many central banks are an acknowledgement of the financial and macro linkages. To the extent that central banks have dedicated brains and hands examining financial stability, it can only be a good thing. But, to what extent do they inform policy or if it is a case of form over substance, judgement has to be reserved until the blowback from the recent combined monetary and fiscal stimulus is felt and played out. In other words, the tide has to go out for us to spot those swimming naked. That might include the central banks too.
Crucial for the success of both the FPC and PRC is operational independence of decision-making, set in statute. Independence for financial regulation and supervision has received far less attention, analytically and practically, than on the monetary policy side. But, for me, the case for independence is at least as strong as for monetary policy.footnote If anything, decisions on withdrawing the punchbowl are harder, and even more important, during raucous credit parties.
Andy Haldane does well to lay out the case for independence of the Financial Policy Committee and the Prudential Regulation Committee. But, withdrawing the punchbowl has to be done in a coordinated manner. It cannot be the case that the FPC and the PRC withdraw the punchbowl and the MPC puts it back. Again, strange that someone as experienced and as perceptive as Haldane is does not see the connection between the two.
More than a decade on from the crisis, the financial system is a fundamentally different animal – leverage far lower, liquidity far higher.footnote The UK’s largest banks’ activities are protected, additionally, by a ring-fence and systemic surcharges. While I still doubt big banks can fail safely, they are far less likely to inflict collateral damage on depositors and the wider financial system. In all of these respects, the regulatory reform agenda of the past decade has been strikingly successful.
And the benefits of this have already been felt. During the Covid crisis, the global banking system has lived up to the expectations set for them by Mark Carney at its start: they have been part of the solution, not the problem.
These observations are striking for they confirm the failure to connect monetary policy to financial stability. Indeed, if the earlier failure was one of refusing to see the feedback from finance to economics, now it seems to be the other way around.
Lending to real businesses:
Constrained credit to companies was, in turn, a potent factor behind the UK’s anaemic subsequent recovery….
These same fault-lines were re-exposed during the Covid crisis. The good news, this time around, was that large numbers of loans – in excess of one and a half million of them – were made to UK businesses by UK banks in the space of a few months. The bad news is that the vast majority of these loans would not have been made at that speed without a 100% guarantee from Government. Only by effectively nationalising SME lending were the Macmillan gaps bridged in crisis….
To my mind, what is needed to bridge the Macmillan gaps, durably and comprehensively, is the equivalent of a UK Development Bank, operating on a decentralised basis. As other countries have found, the scale and scope created by a Development Bank is necessary to reach SME start-ups and scale-ups across all sectors and all regions. The best time to have put in place a UK Development Bank would have been 1929. The second best time is now.
Many important points are made here. There are important omissions too. We will start with the latter. What was the point of ultra-loose monetary policies including QE if lending to businesses did not pick up, post-2008 and that the recovery was anaemic subsequently? What is the policy audit here? Should it not be done?
If, post-Covid, lending picked up only because there was 100% State guarantee – effective nationalisation of SME lending as he puts it, – to what extent did low interest rates play a role and if they did so at all?
Put differently, one of the ‘excuses’ for monetary policy to have played such a big role post-2008 was that fiscal policy did not step up to the plate. But, post-Covid, with fiscal policy kicking in big time, is there a need for monetary policy to be as big as well?
If the response is that borrowing cost would have risen too much without monetary policy underwriting the fiscal expansion, then does it not confirm the failure of the monetary policy post-2008 to create a durable recovery with productive asset creation? Indeed, the above extract is the most severest indictment of the post-2008 monetary policy. It also constitutes the biggest disappointment with Haldane’s personal failure to hold the post-2008 monetary policy accountable for its failure to achieve the economic goals which were never clearly spelt out in the first place.
It appears that it has been left to the Economic Affairs Committee of the UK House of Lords to ask some of the fundamental questions that one would have expected a man of Haldane’s experience and erudition to pose, at least now. I am yet to read the report. FT reports on it here and here.
[Somewhat independently, in the Indian context, there has been a development bank to cater to small businesses. That is the Small Industries Development Bank of India (SIDBI). But, has it accomplished its mission or does it continue to accomplish its mission? How should the mission be defined in the first place? Just amount of borrowing facilitated or refinanced? In quantitative terms, as a percentage of GDP and as a percentage of overall credit? Or, should it be about the number of micro enterprises that became small, medium or large, the number of small enterprises that became medium or large and the number of medium enterprises that became large, before and after the advent of SIDBI?]
On digital currency and its benefits
On financial stability, a widely-used digital currency could change the topology of banking fundamentally. It could result in something akin to narrow banking, with safe, payments-based activities segregated from banks’ riskier credit-provision activities. In other words, the traditional model of banking familiar for over 800 years could be disrupted…. Specifically, this could lead to a closer alignment of risk for those institutions, new and old, offering these services – narrow banking for payments (money backed by safe assets) and limited purpose banking for lending (risky assets backed by risky liabilities).
While this sounds reasonable, he proceeds to (deliberately) obfuscate the issue of negative interest rates on Central Bank Digital Currencies (CBDC). Read the following:
At root, the ZLB arises from a technological constraint – the inability to pay or receive interest on physical cash. This is a technological constraint that every form of money, other than cash, has long since side-stepped…. In principle, a widely-used digital currency could mitigate, perhaps even eliminate, this technological constraint. Specifically, CBDC would enable interest to be levied on central bank issued monetary assets or digital cash. The extent to which this relaxed the ZLB constraint depends, in addition, on the elasticity with which physical cash is provided to the public alongside CBDC. Access to physical cash is an issue well above the pay grade of central bank technicians; it is a political-cum-social issue…..
Nonetheless, the potential macro-economic benefits of easing the ZLB constraint are large and have grown over time. Studies suggest the ZLB constraint can result in significant shortfalls in output relative to potential (of around 2%) and inflation relative to target (of as much as 2 percentage points).footnote These are potentially enormous gains in macro-economic terms. To those benefits needs to be added the gains to digital cash users of holding a remunerated instrument, helping protect their purchasing power.
He is conflating issues. Negative interest rates are about charging the lender. In physical cash, a central bank issues a zero coupon bond. The so-called ZLB is the inability of the central bank to charge the public an interest rate for issuing them physical cash even though cash is a central bank liability! What he is hinting at and not stating openly is that with digital currencies, he thinks that the issuance of currency notes can be done at negative rates of interest. In other words, public pays interest to hold paper currency in its wallets! Otherwise, it will all be CBDC. They can choose.
This brings to my mind the comment I posted on the article by Ken Rogoff in FT on negative rates. Brilliant minds are captivated by their own intellectual acrobatics. They lose sight of the forest for the mastery of the details of growing different trees. What is the tree for? What economic purpose does it serve? That too, after acknowledging that post-2008 policies did not lead to higher lending to businesses and that it was a government guarantee – effective nationalisation – that made the difference, post-Covid. Who benefits from negative interest rates? How big is the ‘cost of capital’ constraint?
On communication and transparency, Haldane deserves much credit for taking the Bank to the public and in de-mystifying it. He also rightly takes credit for bringing people with diverse backgrounds, experiences, etc., to the bank. Those are positives. But, on the issue of transparency which he does not go into, central banks have not struck the right balance between being transparent and non-transparent to financial markets. Again, like with many things, there is no discussion and there is no accountability, hence. Why is transparency needed? What public purpose does it serve? What are the costs? Is it still worth it, after considering the costs? There has never been an open and honest discussion of these questions.
To some extent, Haldane addresses the question of ‘transparency’ with a discussion on forward guidance:
The provision of public policy signals may dampen incentives among market participants to invest themselves in understanding the economy. These risks have I think been realised in practice, with forward guidance encouraging too much poring over central banks’ words and too little poring over the data on which monetary policy decisions are based. That is the wrong way around.
I think the drawback of ‘forward guidance’ or ‘policy transparency’ is not just one of dumbing market participants down. They seem to need not much incentive to do so, these days. It is also about encouraging excessive risk-taking which is what Alan Greenspan’s gradual normalisation of monetary policy achieved between 2004 and 2006. To a considerable extent, it played a role in fomenting capital market risk.
On ‘Forward Guidance’, Haldane concludes with the right advice:
My takeaway for forward guidance from this experience echoes my takeaway for the Bank’s approach to communications generally. Where possible, keep it short and simple. And focus the message on the needs of those shaping our economy, companies and households, not those trading financial instruments. [Emphasis mine].
He is heading over to head the Royal Society of Arts. As I stated at the beginning, there is much to envy in the career trajectory of Andrew Haldane. He steered clear of politics and did not conflate his policy competence with political ambitions. By all accounts, he has achieved a lot. There is much to admire and much to applaud. But, equally, there is much to criticise too for a fair and objective assessment of a man’s contribution to public policy has to encompass a much longer time line since policy itself makes its presence felt with a long and variable lag.