So inflation fell again to 3.2 per cent as expected in March. Good news. We are now therefore closer to the 2 per cent target and with an inflation rate in fact slightly lower than the USA.
However the US is a robustly growing economy with strong job creation whereas the IMF has just forecast that the UK will have the lowest GDP growth (+ 0.5%) bar Germany (+ 0.2) this year. What is more our inflation rate remains almost a point above that of an also struggling Eurozone.
Still good news. So why all this criticism about the Bank of England’s (BoE) perceived poor inflation forecasting record that led to them asking Ben Bernanke, the Nobel prize winning ex-head of the Federal Reserve, to conduct a review whose conclusions have just been published.
Ben Bernanke made some 12 recommendations which included:
- Improved communication by the BoE.
- More investment in digital infrastructure for the forecasting process.
- Better guidelines on the division of labour between staff involved in the process; and
- Some criticism of the use of fan charts which have become too wide and therefore offer little guidance on potential outcomes.
The general verdict in the press was that the Bank came out of it rather badly.
In some ways the Bank had brought it on itself. In an amazing display of “Mea Culpa” the Governor, Andrew Bailey and his chief economist, Huw Pill , flanked by two independent MPC members , admitted to the whole world in a televised Treasury Select Committee meeting in May 2023 that they had got their forecasts of inflation wrong, hadn’t used historical data going back enough in their model tracking similar crisis as the one we were just going through for pointers, and then apologised.
Well, the markets didn’t like it. Yields rose and the Bank’s credibility, already a bit shaky, was shot to pieces. Hence the Bernanke review.
But the Bernanke report made it clear that nobody really did get it right and the Bank’s plight was shared with most central banks and independent forecasters who also underestimated the extent and persistence of the inflation surge.
Indeed before Russia’s invasion of Ukraine, the World Bank was forecasting that commodity prices, including oil and gas, and also food, would all either stay flat or fall on average in 2022, suggesting that if anything the world might easily have expected to see a resurgence of deflation – not something that would have been in the slightest bit welcome.
The invasion of Ukraine was not being forecast at that stage – or frankly its overall impact. And as inflation rose and then fell, the main contributory factors were international oil and gas and food prices, completely outside national governments’ direct control. And raising rates arguably made no difference to the inflation picture, except potentially though slowing growth in the medium term.
In this environment was the Bank guilty of being too lax for too long after Covid restrictions were lifted and economies started bouncing back? I don’t know how often people who accuse the BoE of acting too late need to be reminded that in fact the Bank raised its rates first in December 2021 – admittedly from just 0.1 to only 0.25 per cent at that time – followed by 13 other consecutive increases since.
In contrast the US Fed only first lifted rates from their near zero lows in March 2022. And the European Central Bank (ECB) waited until July that year. It is extraordinary now to recall that until then, and indeed for a good few months after the Russian invasion of Ukraine, the ECB had kept the key deposit rate for banks negative at more or less the level it had been since March 2014 at the depth of the Eurozone crisis when the Eurozone had slipped into recession.
I agree though that communication is key for restoring credibility. In my view, watching what one says in front of select committees is key!
But Bernanke’s emphasis is more on making the forecasts useful for the markets. One of his recommendations is to move into scenario planning as a better way to demonstrate upside and downside risks rather than the too wide and now generally ignored fan charts that seem to be in vogue at present.
But a word of warning. As an erstwhile scenario planner, my experience tells me that however many good alternative scenarios one prepares, the outside world focuses on only one – the central scenario. Moving away from reliance on it is difficult and ultimately could lead to further confusion and a renewed lack of transparency.
