What might Carney say when he speaks to the Treasury Select Committee?

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Tomorrow the soon-to-be Governor of the Bank of England, Mark Carney, will be sitting in front of the Treasury Select Committee.

This will be an opportunity to see what Carney feels are the priorities for monetary policy in his tenure. Below is a brief discussion key issues in monetary policy that they might discuss:

Nominal GDP targeting

Shortly after his new governorship was announced Mark Carney mooted the idea of nominal GDP targeting. He said

"adopting a nominal GDP (NGDP)-level target could in many respects be more powerful than employing thresholds under flexible inflation targeting. This is because doing so would add “history dependence” to monetary policy. Under NGDP targeting, bygones are not bygones and the central bank is compelled to make up for past misses on the path of nominal GDP"

Mervyn King was not a fan of abandoning inflation targeting, he has previously said that while it is worth considering the suitability of the current target, ultimately it is not the inflation target that is the problem.

“the challenge we face is not the inadequacy of the framework, but the fact that there is no easy route to recovery after a major banking crisis. Recovery is inevitably slow and protracted. The healing process will take time”

Allister Heath puts it somewhat more colourfully, saying that targeting nominal GDP “can turn into an inflationista's charter, with the Bank effectively given the green light to let prices rip”

This blog from Stephanie Flanders highlights that there are also some practical problems with adopting such a measure, for example, GDP data is published less frequently, and is subject to more frequent revision than inflation data, which might make it an inferior base to determine monetary policy upon.

The American Dream? Forward-looking interest rate guidance

One way in which US monetary policy differs from that in the UK is that the Fed issues guidance as to the expected path for monetary policy. In January 2012 the Fed started issuing guidance for as far out as late 2014.

And, as this article suggests, the Fed's forward looking announcements can and do impact on market expectations.

But there might be some issues with such forward-commitment, for example, Mervyn King previously expressed concerns about committing the central bank to a future course of action saying that the MPC took its decisions on a month-by-month basis depending on economic conditions.

Turning Japanese? A looser targeting regime

Rather than abandon inflation targeting altogether one option that could be considered is making the target broader and more flexible. This would be similar to the recent Japanese approach, where the Bank of Japan adopted a 2% inflation target but, according to The Economist, “the timeline for hitting said target is extraordinarily vague,”

This has its advantages, allowing the Bank freedom to (in this case) undershoot its targets in response to the existing macroeconomic situation, whilst nonetheless stating its long term ambition to bring inflation to 2%. However, as an FTAlphaville blog pointed out, vague targets might reduce the credibility of a central bank as they reduce the perceived commitment to bringing inflation to its target.

But perhaps the simplest argument that we don't need more flexibility is that we've already seen significant flexibility in the interpretation of the target. As Charles Goodhart pointed out: the target has done little to stop the Monetary Policy Committee easing rates and printing money to stave off an economic and financial meltdown.

Going beyond gilts

MPC member Adam Posen has argued that the Bank of England should extend its (QE) asset purchases beyond gilts. Purchasing private sector assets, such as stocks and shares, may be a more targeted way to get the benefits of QE flowing through the economy.

But purchasing company shares would not provide a benefit targeted to those companies that are most suffering from a constrained financial system. Access to finance is a key problem is for small companies, but small companies do not have access to the stock markets in the same way as their larger counterparts. To get round this Posen suggested a body that would securitise small business debt in a similar way to the role that Fannie Mae and Freddie Mac play in the US mortgage industry.

However, Mervyn King has previously argued that it is important to keep purchases to gilts only to avoid distorting credit allocations.

Of course, these are just some of the issues that could come up. Mark Carney will be in front of the Treasury Select Committee at 9.45am tomorrow. Follow us on twitter @EEF_Economists for updates.


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