Current monetary policy – opening remarks by Jonathan Haskel

Speech

Thank you for inviting us here today to talk about our recent book.

Our book is about how well institutions are suited to a more “intangible” economy. The events of the last two weeks have underlined just how important institutions are. So before we get into the book let me reflect on some of those events.

First, financial markets. As my colleague Huw Pill, the Chief Economist at the Bank has said, you should expect re-pricing of financial assets in response to the changing macro outlook. As we have recovered from Covid, UK 10-year gilt yields have risen by around 250 basis points since the start of the year until 22 September: the trend in US and Euro Area yields was broadly similar.

However, in the days following HM Treasury’s fiscal event on Friday 23 September, there was a significant divergence between government bond yields in the UK and in other countries. Between close of business on Thursday 22 September (the day before the fiscal event) and close of business on Tuesday 27 September (the day before the Bank’s market intervention), US and German 30 year government bond yields increased by around 20 basis points. By contrast, UK 30-year gilts rose by 120 basis points.

Echoing what Huw said, the data show there was undoubtedly a UK-specific factor in these changes.

In line with its financial stability objectives, the Bank of England, rightly intervened, in a way that is targeted and temporary, to restore gilt market functioning. Restoring market functioning prevents costly self-fulfilling market dislocation that might spread from financial markets into credit conditions for UK households and businesses.

The intervention is targeted to the longer-dated gilt market where the risks to a market dysfunction had emerged. And it is temporary to support gilt market functioning as a backstop while facilitating a necessary process of deleveraging.

And, following the Bank’s intervention, 30-year gilt yields fell by 100 basis points that day, and 120 basis points by the end of last week.^{footnote [1]}

I should also note that while some have described this intervention as the Bank buying £65 billion worth of gilts; this is not the case. The objective is to provide a backstop which will support market functioning, rather than purchasing a fixed total of longer-dated gilts. The Bank has announced it will purchase up to £5 billion per day for 13 working days, hence up to £65 billion in total. The total amount purchased will thus depend on market conditions. In fact, purchases so far (including today’s auction) have totalled approximately £3.8 billion.

Second, monetary policy. The Monetary Policy Committee (MPC) takes account of short-term changes in financial markets when taking decisions. But given the time it takes for monetary policy to have its full impact, the MPC is focussed primarily on the medium and longer-term prospects for the economy. The MPC’s remit is to achieve low and stable inflation in the medium-term, with a target of 2%. The MPC has the tools and resolve to return inflation to target in the medium term.

This is a target the MPC has largely achieved – inflation has averaged almost exactly 2% over the past 25 years. Based on historic data compiled by researchers at the Bank of England, the 25 years since the MPC’s creation has seen a combination of low inflation and greater price stability than any preceding 25 year period dating back 800 years.

For those who have not seen these data, this is set out in Chart 1, which is an update of a figure originally developed by Ricardo Reis^{footnote [2]}. The chart shows the average rate of annual inflation on the horizontal axis, and the variability of inflation on the vertical axis. Each point is a 25 year period, dating back to the thirteenth century, using data from the Bank of England’s millennium of macroeconomic data dataset. The point for the 25 years since the Bank of England’s independence in 1997 has had inflation very close to the 2% target on average, and with very low variability (and thus a high degree of stability).

The graph is evidence that an independent Bank delivers. Now, we are fortunate in the UK to have a constellation of independent institutions, such as the Competition and Market Authority, Office for National Statistics, the Office for Budget Responsibility (OBR), and the Bank of England. It is perhaps underappreciated that there are substantial synergies between these independent organisations. For example, in our forecasts we use OBR data and projections for government spending and taxes, with our next forecast being in the November Monetary Policy Report, which is several weeks away. In that regard, echoing the Governor’s words of last week, I welcome the usual close involvement in the Budget process of the OBR. A sidelined OBR generates more uncertainty by worsening everyone’s information base.

Turning to the more medium term, the government is right to stress the importance of economic growth. For me at least, a vital determinant of such growth is labour market participation. Changes in participation are emerging as the key economic legacy of Covid in the UK.

In most countries in the developed world, the economic inactivity rate, that is the proportion of people neither working nor actively searching for jobs (and hence meeting the definition of unemployment), increased during the pandemic, but then fell back. As Chart 2 shows, inactivity overall has then fallen somewhat since 2019. Between 2019 and the first quarter of 2022, inactivity fell in the median OECD country by 0.7 percentage points.

But the UK is different. In stark contrast to the EU aggregate and the median OECD country, economic inactivity in the UK has risen by 0.7 percentage points over this period. This rise in economic inactivity will hold UK growth back.

The final medium-term issue is that institutions will have to adapt to the economy in which they find themselves. A key change in recent years is the economy becoming more dominated by “intangible” assets. That affects, for example, competition, planning and science policy and the institutions around them. And that is the subject of our new book which I am delighted to be able to speak to you about tonight, along with my brilliant co-author Stian Westlake.

Chart 2: The UK has seen a large rise in economic inactivity since 2019

Change in inactivity rate (15-64 years) between 2019 and 2022 Q1, selected countries, percentage points

Footnotes

• Source: OECD, author’s calculations
• Notes: UK inactivity rates published by ONS typically use the age band 16-64, but 15-64 are used here for international consistency. “OECD median” is the median change in inactivity across 38 OECD countries.

The views expressed in this speech are not necessarily those of the Bank of England or the Monetary Policy Committee. I’m grateful to Josh Martin and Maren Froemel for help in preparing these remarks. Thanks also to Andrew Bailey, Huw Pill, Dave Ramsden, Catherine Mann, Fergal Shortall, Matt Sklar-Roberts, and Danny Walker for helpful comments. All errors remain my own.