Towards a better independent central bank?

It's been 25 years since Gordon Brown, the new Chancellor (the 1997 election had been the previous week), gave the Bank independent powers to set interest rates. And to mark this, the House of Lords Economic Affairs Committee has published a report on the independent Bank of England, summarised in this FT article.

While useful, however, it's not obvious this sort of Parliamentary report is going to provide the overall level of scrutiny of our central bank and regulators that we need...

BACK THEN...

Back in 1997, at the same time as giving the Bank its independence, the Chancellor announced the setting up of the FSA, in the process removing banking supervision from the central bank's remit. The Governor at the time, Eddie George, was widely understood to be unhappy at losing supervision responsibilities.

Subsequently, during the fairly tortuous process of separating banking supervision from the central bank and moving it to the new regulator, HM Treasury's mantra was to "de-duplicate" the two authorities so that there was real clarity about who did what. And a few years later, Eddie George's successor, Mervyn King, told an FSA audience how relieved he was that the central bank could now concentrate on monetary stability unencumbered by the distraction supervision inevitably brought with it.

Time moved on... The financial crisis exposed, among other things, a macro prudential gap between the Bank's and the FSA's respective responsibilities. To fix this, the current framework has a deliberate overlap, duplication if you like, between the prudential responsibilities of the new authorities, the FCA and the PRA (as a new part of the Bank), with the Bank's Financial Policy Committee (FPC) its most tangible feature.

And since the financial crisis, if the PRA is included, as it should be given its significance, then I doubt there has been a period of more than two years between some sort of change in the Bank's overall remit. New objectives and "have regard to" principles have been crafted and added, remits have been changed and extended.

Depending on your view, this pattern is either an agile response to evolving needs, unhelpful (political) micro-managing that dilutes the Bank's primary role, or a mix of both.

Turning to some of the main players in this saga: Ed Balls was an architect of the 1997 announcements; George Osborne was the Chancellor 2010/16; Howard Davies was Deputy Governor in 1997 and the FSA's first Chair; Mervyn King was Governor for a decade or so, having previously been the Bank's Chief Economist; Paul Tucker was a prominent Deputy Governor for a period. All have deep history in these events and debates.

AND NOW...

All of the above also gave prominent evidence to the committee (aside from Mervyn King, who is a member), together with an array of other witnesses, some of whom also had personal involvement (e.g. as independent members of the Monetary Policy Committee).

And it is clearly important to hear the thoughts of George Osborne, Ed Balls etc. But there is no sense of recognition that many of the witnesses, unavoidably but importantly, have considerable skin in the game. They are not impartial observers, and with the best will in the world, they will have found it difficult to detach themselves and give an objective view.

To repeat, this is not a criticism of the witnesses, but the Committee's reliance on their views and knowledge, apparently unaffected by their insider/protagonist status, increases the risk of unbalancing which issues the committee considered and narrowing the range of its debate and recommendations.

In this context, it's not a surprise that there is at best lukewarm support for expansions of the Bank's remit from those who were involved in previous decisions to craft it narrowly. Other witnesses felt the same and it may be right that the remit is now too wide, but the recommendation is less compelling as a result.

Perhaps the most striking example of potential imbalance is the section on the lack of diversity in the appointment of Bank Deputy Governors (pp42ff). Several witnesses expressed concern that all four of the current Deputy Governors had previously worked at HM Treasury, which has a significant part in the appointment process [para 137]. Meanwhile, the witnesses quoted in support of the status quo [paras 138-42] all had a role in the current process. As an example, the then Minister's argument in support of the narrow range of appointments was that the choice was being made from "a fairly narrow gene pool". The consequent recommendation, while strongly worded, is for a review.

AND A POSSIBLE FUTURE...

As I said, all the witnesses who gave evidence for the report are valuable and entirely legitimate. But it seems naive not to treat more impartial experts differently from those with a close personal involvement in the institution and/or system being reviewed. Perhaps this distinction is made informally, but if so it's hard to spot, and it would be good to understand better the Committee's thought process, how it reached its recommendations from the evidence.

From the evidence in the report, a plausible argument could also be made that HM Treasury's role, both in changing the Bank's remit and in the appointment of Deputy Governors and other MPC members, could be more transparent and in some case even arm's length.

More broadly, there is no obvious examination of how independence works in practice and whether this has changed over the years. And, beyond the then minister, I cannot see any witnesses from HMT.

The report is clearly a valuable addition to the discussion of the Bank's role and performance but, in the context of filling the "demographic deficit" that it identifies, it still feels like an opportunity missed.