Fool's Eye View

[ September 20, 2000 ]

Leave Steady Eddie Alone

By James Carlisle (TMFJimmyC)

It's a tough job being the Governor of the Bank of England. In the days leading up to the monthly interest rate decisions, it sometimes seems that there are as many armchair Governors as there are armchair England football managers. In fact, the similarities don't end there because they both have to cop the flak if things go wrong and they rarely get the credit for things going right. Mind you, despite these problems, no one ever turns either job down.

You can think of the economy as being controlled by severall different levers, the main ones being labelled interest rates, taxation and public spending. Each lever has a slightly different effect on the direction of the economy. Move one and you need to move another to keep things in balance. It used to be the case that the Chancellor of the Exchequer had responsibility for all of the levers. Remember Nigel Lawson? In 1987 and 1988, he slackened off heavily on the taxation lever, but didn't compensate immediately by tightening up on the interest rate lever. The result was that the economy went rushing off in the wrong direction and, by the time he noticed what was happening, some very serious yanking was required on the interest rate lever. The sudden slowing down was very painful and compounded the effect that depressed global conditions had on the UK in the early 1990s.

The current Labour Government decided to give control of the interest rate lever to the MPC. This makes things a bit tricky for Eddie George and his team, since they have to try to guess what the Chancellor is going to do, so that they can make the necessary adjustments to interest rates at the right time. This sounds like a recipe for disaster, but so far it appears to have worked well. By taking one lever out of political control, the enitire system is effectively taken beyond political control. The Chancellor knows that there is no scope to induce boom conditions for political purposes. If he cuts taxes and/or increases public spending, then the MPC will immediately respond with the required increases in interest rates and, if the Chancellor has gone too far, the extra high interest rates would not do him any political favours.

Every month, as the time approaches for the MPC to adjust its lever, all the armchair Eddies appear with advice about what should be done. The markets seems to hang on every decision. It's easy to see why. It's very easy for the Wise brokers to spin a story around these decisions and cause us to trade our assets, giving them commission. The odd thing is that they are all missing the point. Each monthly movement in interest rates is of tiny relevance compared to the overall situation. It's not a game where there is a right and a wrong and, if they are a little slow to pull the interest rate lever this month, then they can compensate by giving it a little extra in the future. What matters is the confidence that we have in the MPC to give us the necessary medicine. With the lever out of political hands, half the job is done and, on top of this, the form of the MPC has so far been virtually faultless.

So why do people wait for every decision with bated breath? Don't ask me. If the next decision on interest rates is due this week or next month, it makes little difference in the scheme of things, so long as the MPC has the matter in hand. It also makes little difference if they increase rates by a quarter of a per cent, decrease rates by a quarter of a per cent or keep rates the same, so long as they are prepared to make the necessary adjustments in future. It is, as they say, a marathon not a sprint.

The MPC has a cohort of advisers from the Bank of England and the evidence so far is that they know far more about it all than the markets. Let's let them get on with their job and focus on the conditions which the Government sets for them to operate within. That is where our economic fate lies and that is where the responsibility lies.