Thank you, Chairman. I’m actually very pleased to be
here, and to have this opportunity to respond directly to some of the serious
concerns that have been expressed recently by Trade Union leaders - among
others - about monetary policy.
Let me start with what is perhaps your biggest concern. You
think that the Monetary Policy Committee, which I chair and which sets interest
rates, is only interested in controlling inflation and takes little or no
account of the effects of its decisions on real economic activity and jobs.
Some of you evidently think that’s because we’re a crowd of
"pointy-heads" or "inflation nutters", or even "manufacturing hooligans" - and
I’m not sure these descriptions are intended as terms of endearment. More
seriously some of you think that the problem lies with our remit from the
Government which is first, to maintain price stability - defined as an
underlying inflation rate of 2 1/2%, and, subject to that, to support the
economic policy of the Government, including its objectives for growth and
employment.
Whatever the reason, your concern is that we place too much
emphasis on holding prices down and not enough on keeping growth and employment
up. The implication is that you see a trade-off between inflation and the rate
of economic growth, so that if only we’d let up a bit on controlling
inflation then this country could enjoy higher activity and lower unemployment,
which are the really good things in life - or at least we could avoid some of
the worst damage that is currently being inflicted upon the whole of the
agriculture, large parts of manufacturing industry and even some services
sectors.
And that might even be true for a time. The trouble is that,
in anything other than the short term, it would be likely to mean more rather
than less economic damage, and lower rather than higher growth and employment.
Often in the past in this country we behaved as if we
thought that promoting higher growth and employment - which of course is what
we all want to see - was largely a matter of pumping up demand. We paid too
little attention to the structural, supply-side, constraints. All too often we
tried to buy faster growth and higher employment even at the expense of a bit
more inflation. In effect we tried to squeeze a quart out of a pint pot. And
you all know the result - rising inflation and a worsening balance of payments,
which eventually could only be brought back under control by pushing up
interest rates dramatically and forcing the economy into recession. I
don’t need to remind you of the really miserable social as well as
economic consequences - as right across the economy people lost their jobs,
their businesses and their homes. More insidiously, repeated experience of boom
and bust produced a pervasive short-termism in business behaviour which
infected both industry and finance and - dare I say both employers and
employees - however much we all like to blame everyone else. Everyone was
tempted to grab what they could while the going was good.
But we have learned from that experience. We’ve learned
that in anything other than the short term there really is no trade-off between
growth and inflation. What we are trying to do now through monetary policy is
to keep overall demand in the economy growing continuously broadly in line with
the capacity of the economy - as a whole - to meet that demand. Both the
previous Government and the present one set a low inflation target as the
immediate objective of monetary policy, not as an end in itself, but in effect
as a measure of our success in keeping demand in line with supply. So the real
aim is to achieve stability across the economy as a whole in this much wider
sense.
Now, there is not a lot, frankly, that we can do directly
through monetary policy to affect the supply side - the underlying rate of
growth that can be sustained without causing inflation to rise. That can be
influenced by the whole raft of Government policies, ranging from education and
health to taxation and social security, and it depends ultimately on the
ingenuity, the productivity, and the flexibility, of the economy. Employers and
employees, working together, clearly have a crucial role to play in this
context, and I recognise the constructive and forward-looking role that many of
you are now playing to improve the supply-side capacity of the economy.
Monetary policy operates on the demand side. And the best
help that we can give is to keep overall demand consistently in line with that
supply-side capacity - not letting it run above capacity but not letting it
fall below capacity either - as reflected in consistently low inflation. That
way we can moderate rather than aggravate the unavoidable ups and downs of the
business cycle, enabling steadier growth, high levels of employment and rising
living standards to be sustained into the medium and longer-term. And if we can
do that, then we will contribute indirectly to the supply side by creating an
environment which encourages more rational, longer-term, decision-making
throughout the economy.
I would hope, Chairman, that on this basis we could all
agree at least on what it is we are trying to do. The debate is not about the
ends it is about the means. We are every bit as concerned with growth and
employment as you are - as anyone in their right mind must be. But we are
interested in growth and employment that is sustained into the medium and long
term. And permanently low inflation is a necessary condition for achieving
that.
But, even if we agree on the objective, that still of
course, leaves plenty of room for us to disagree about what that means for the
actual policy stance - the level of interest rates - at any particular time. In
fact, as you may have noticed, because we are wholly open about it, even the
individual members of the MPC have been known to disagree about that - at the
margin. Outside the MPC, a lot of people say to me - "OK I agree we don’t
want to return to boom and bust, but you are still overdoing it. From where I
sit, or from what I’m told," they say, "we’re headed for recession -
just hours away". Sometimes they imply by that that we are also going to
undershoot the inflation target - sometimes they don’t much seem to care
about inflation.
Now there are always plenty of people who claim to know
what’s going to happen to the economy, to know that interest rates are
"clearly far too high" or "clearly far too low", and the present time is no
exception. It’s been difficult recently to hear yourself think above the
deafening noise of opinions on the state of the economy, which, understandably,
often reflect the situation in their particular neck of the whole economy wood.
The truth is that neither we, nor they, nor anyone else, can
know with any great certainty precisely where demand is in relation to capacity
in the economy as a whole. Still less do we know where it is likely to be over
the next couple of years - and that is the more relevant consideration, given
the time it takes before changes in interest rates have their full effects.
Monetary policy is not a precise science - we’ve never pretended that it
is. But it can’t be just a matter of sweeping, broad brush, impressions
based upon partial information either. What we have to do is to make the best
professionally-informed analysis we can, of all the sources of information
available to us, relating to every sector of the economy and every part of the
country, and then constantly review and as necessary modify our judgements,
month by month and quarter by quarter, in the light of the flood of new
information as it becomes available.
And that, of course, is exactly what we do in fact do -
using the vast array of official economic statistics and financial market data,
all the publicly available and some private surveys and commentaries, as well
as a wealth of anecdotal and structured survey evidence that we collect
ourselves, through our 16 non- executive directors, through the frequent visits
which MPC members make around the country, and through meetings in London, and
through our network of 12 regional, information-gathering and disseminating,
agencies with their 7000 industrial contacts throughout the UK. And we openly
display the facts as they are available to us, as well as our analysis and our
conclusions, regularly through the publication of the minutes of our monthly
meeting and in the quarterly Inflation Report.
So when people say to me that the economy is headed for
recession, I’m interested in comparing the evidence on which they base
their views with our own evidence, and I want to know whether or not they are
also saying that they expect us to undershoot the Government’s inflation
target.
Let’s just for a moment turn down the noise and look at
some of the relevant facts as they relate to the economy as a whole.
Since the economy started to recover from recession in the
spring of 1992 - some 6 1/2 years ago - overall output has grown at an average
rate of about 3%. That is well above the trend rate for the past 20 years, of
just over 2%. Employment has increased by 1.2 million over this period, while
unemployment has fallen almost month by month, on the familiar claimant count
measure, from a peak of over 10% in 1993, to some 4.7% now. That is the lowest
rate for 18 years. Meanwhile retail price inflation (on the Government’s
target measure) has averaged around 2 3/4% - that’s the lowest for a
generation. There’s not much evidence here that low inflation inevitably
means low growth and employment.
But, of course, we started this period with demand below
capacity - with a fair amount of slack in the economy which we were gradually
taking up. By last year it had become clear, in the evidence of rising capacity
utilisation and of growing tightness in the labour market, that unless we acted
to moderate the growth of demand we were at risk of overheating. That’s
why we tightened policy over last summer - to slow things down before inflation
took off - and to head off a subsequent recession. And although, as I say, you
can never be sure - economic forecasting is a very uncertain business - a
necessary slowdown rather than a more serious recession is what we think
we’re seeing, and, as I understand it, that is what your own General
Council thinks too.
Our problem in slowing the economy down has been enormously
complicated by the increasing imbalance between the domestic and the
internationally-exposed sectors of the economy. Domestic demand for goods and
particularly for services has been unsustainably strong and large parts of the
economy have been doing very well on the back of that. But the sectors which
are most exposed to international competition have been suffering enormous
pressure as a result, initially, of the exaggerated strength of sterling -
especially against the major European currencies in the run up to decisions on
the euro; and as a result subsequently of the successive waves of turmoil
spreading through large parts of the global economy. Overall demand growth - at
least until fairly recently - remained excessive and the labour market has
continued to tighten.
The question was what should we do? It was not that we
didn’t know that large parts of the economy were under the hammer - we
have been as conscious of that as anyone. Still less was it that we didn’t
care - we care, just as you must, about activity and jobs in all sectors of the
economy. But the stark choice confronting us was either to tighten policy,
knowing that that would inevitably increase the pain which the internationally
exposed sectors were already suffering, or to disregard the developing excess
overall demand in order to protect the internationally-exposed sectors from
further damage.
This second course might have meant less pain for the
internationally-exposed sectors in the short run. But it would have meant
putting the whole of the economy, including the exposed sectors, at risk of
accelerating inflation, and it would in all probability have meant a much
sharper downturn in the economy as a whole a little further ahead. We’ve
been round that buoy all too often before. And so we tightened policy, trying
as best as we could through our tactics to minimise the unwanted upward
pressure on the exchange rate.
I know, Chairman, only too well that this will be cold
comfort to many of you in the exposed sectors - but there’s no point in
pretending things are other than they are. The present imbalance means that we
are trying to maintain stability in extraordinarily difficult circumstances.
But I will make one final point. The inflation target we
have been set is symmetrical. A significant, sustained, fall below 2 1/2% is to
be regarded just as seriously as a significant, sustained, rise above it. And I
give you my assurance that we will be just as rigorous in cutting interest
rates if the overall evidence begins to point to our undershooting the target
as we have been in raising them when the balance of risks was on the upside.
There is now evidence that domestic demand growth is moderating, as it must do,
and that the labour market is tightening more slowly than before. On top of
that, as we said in our press notice last Thursday - announcing that we had not
changed interest rates - we recognise "that deterioration in the international
economy could increase the risks of inflation falling below the target". That
is still not the most likely outcome in the eyes of most of us - and given the
real world uncertainties we can anyway never sensibly tie our hands. But there
is no doubt in my mind that recent international developments have at least
reduced the likelihood that we will need to tighten policy further.