Bank of England governor-designate Carney draws battle lines but recognizes uphill struggle
Mark Carney, current Bank of Canada governor, revealed his monetary and bank-reform policy options, during a grilling at the UK's Treasury Select Committee, setting himself up for a showdown with more hawkish monetary advocates.
In case you missed it, here’s a shorter version of Mark Carney's grilling at the UK Treasury Select Committee. Let us paraphrase:
|“Nominal GDP in the UK is still 16% below its pre-recession level so the Bank of England needs to embark on more stimulus measures. I disagree with the current governor that central banks have maxed out on their firepower. More flexible inflation-targeting can deliver more stimulus to the economy, via forward-rate guidance or empirical thresholds to anchor monetary policy. Price level targeting is not appropriate for the UK thanks to structurally high, and above-target, inflation.
"Productivity in the UK is down, in part to a weak-banking sector. I am happy to be outvoted, I am happy to reduce the number of MPC meetings per year and any debate about shifting the BoE mandate should be short.
"If I had political ambitions I would have pursued them in Canada. I think my compensation is legitimate – London is bloody expensive compared to Ottawa – and I hope this is the first and last time I will be held to account on this issue in the court of political opinion.
"I also think the UK banks need a higher leverage ratio than the government is considering."
In sum, some market monetarists will be disappointed by this testimony of the incoming head of the Bank of England (BoE). Carney’s views are not as radical as expected since he chose to hedge his response. There is a case for a debate on reviewing the Bank of England’s mandate but flexible inflation-targeting is the right course of action, he argued. In short, he argued that NGDP targeting can work when rates are at the lower-bound but he is “far from convinced of its merits" since the policy works when people consume more, in a nod to the growth-based framework. However, he doubted whether consumers and producers would appreciate a shift in this mandate. In this context, "the main benefits of NGDP go away", he argued.
When pressed on the efficacy of signalling the virtues of a dovish monetary stance via conditional commitments to keep rates low for longer via forward-rate guidance, Carney said this monetary stance would be consistent with meeting inflation expectations, if given “flexibility” over the time-horizon in which the inflation target could be met. "With inflation above target ... I think it would be useful to have an understanding on the timeline for policy to return to target,” he said.
The Bank of Canada’s governing council structure means the interest rate decision is for Carney alone, but the governor made it clear he would respect the primus inter pares environment within the UK monetary policy committee. His testimony – and actions at the BoC and FSB level – lay bare his leadership instincts and battle-ready disposition.
However, the pound strengthened when Carney recognized that he might hold an outlier opinion within the BoE MPC on the benefits of more flexible inflation-targeting – such as empirical thresholds to anchor monetary policy, a prolonged zero-bound interest rate stance, or greater quantitative easing.
Carney indicated that if inflation is higher than expected, but rates are not hiked, that should be considered a relative loosening in the monetary stance, buttressing his dovish credentials and adding fuel to the outlier view that rates could remain at the current level throughout his five-year tenure.
In short, Carney confirmed his reputation as a charismatic and politically astute communicator, perhaps in contrast to the outgoing governor.
UK chancellor George Osborne – responsible for any shift in BoE mandate – has set a high bar for a shift in the central banks’ remit but has not ruled it out. In a sense then, Carney has a licence to discuss a shift in the mandate.
Bottom-line: Carney would like a debate on changing the remit, if only to confirm its inherent flexibility and to use the opportunity to tout the virtues of more aggressive monetary measures given the UK’s output gap and the transatlantic tide in favour of further unconventional monetary measures.
- Carney said the global financial crisis has underscored the allure of imposing a high leverage ratio for banks, a non-risk based prudential tool to complement minimum capital adequacy requirements, citing the resilience of Canadian banks – supervised under a strict leverage ratio regime – in the crisis.
- In this context, he disagreed with the UK government’s recent white paper, in response to the Independent Commission on Banking (ICB), led by Sir John Vickers, that decided to apply the current international Basel leverage ratio target of 3%, rather than the ICB-recommended 4.06% ratio.
- Carney was in favour of lowering the barriers to market entry for banks and greater competition, in general – such as considering current-account portability – when asked whether the concentration of the UK banking system drove the crisis.
- The Bank of Canada governor was not asked whether FSA rules on capital and liquidity in the past three years were too pro-cyclical and contributed to poor state of the UK economy.
- The global bank-reform aficionado was also not asked about the challenge of marrying his BoE monetary role and ramped up supervisory commitments with his global position as chair of the Financial Stability Board at Basel.
- The governor made it clear he could bring a perspective akin to the US Federal Reserve in his capacity as BoE chair given the fact the Canadian growth cycle, the Canadian dollar and domestic credit conditions are so heavily influenced by the US.
- He said he is happy to reiterate his view that Germany needs to spend more and tolerate higher inflation to achieve eurozone rebalancing, in his capacity as incoming BoE governor.
- Strangely, when informed of the BoE MPC meeting on Thursday – that kept rates on hold – Carney said he was unaware of the meeting.
- Carney underscored the fact he is a big fan of “modern macroeconomic theory”, as advanced by Michael Woodford at Columbia University, who famously delivered an influential speech to the annual meeting of G7 central bankers in Wyoming in August 2012. This speech touted the virtues of forward-rate guidance, citing Carney’s successful mid-crisis monetary measures, as well as NGDP regimes.
- He was not asked whether Osborne is consulting the former Goldman Sachs banker about the primary bank-reform legislation that will be submitted before his tenure.
- Carney’s written evidence was drawn strongly from this Bank of Canada report in November 2011.