Central Banking works - you just don't know it.

Bank of England policy has successfully supported the economy over the last decade, without worsening inequalities between different age, income and wealth groups.
But the general public, particularly older individuals, is sceptical.
Central Banks must sell their success – their independence (and our livelihoods) depends on it.

Perception is a lot more negative than reality.

There’s currently a gap between how effective Central Banks have been in averting the worst of the GFC, and how effective the general public believes Central Banks have been. Perception is a lot more negative than reality.

The academic and ‘elite’ in me is tempted to say: “Who cares? The general public doesn’t know what they're talking about. Central Banking is a complicated and critical art that must be left in the hands of experts, not ‘Joe Public’. So who cares what the public thinks?”

Well, as it turns out, it’s actually very important what the public thinks. Central Banks have become more powerful and have more independence to execute their will than at any point in history. But this isn’t a given. If enough public mistrust is generated as to the true motives and effectiveness of Central Banks, public opinion could influence politicians to take away this power, authority and independence.

The simple stroke of a pen could change or even revoke the very Act of Parliament that founded the Reserve Bank of Australia. Monetary policy could return to the hands of quibbling bureaucrats who do not have the expertise to respond effectively and swiftly in times of crisis.

Just imagine a politician that:

·        Overheats the economy because he was too afraid of mortgage holder opinion to raise interest rates earlier;

·        Causes the financial sector to crash because some misguided concerns about ‘moral hazard’ stopped him providing enough liquidity and/or acting as ‘lender of last resort’ during a financial panic;

·        Sends the economy back into Depression because some economically-illiterate ‘inflation hawks’ pressured him into raising interest rates and withdrawing liquidity from the market too soon in the recovery;

·        Makes monetary policy as politically-hamstrung as the US government was during the 2012 debt ceiling stalemate – or worse, as actively destructive as austerity-obsessed Euro governments during their debt crisis.

If Central Banks are to remain effective, they need to maintain the social contract they have with the public. It isn’t enough that they know what they are doing. They need to convince the public that they know what they are doing. Otherwise their independence and power could be taken away from them, and Central Banking could become just as ineffective – or actively destructive – as government.

And Central Banks do indeed know what they are doing.

So says Andrew Haldane, Chief Economist at the Bank of England, recent inclusion in the Forbes’ 100 Most Influential People in the World list, and presenter at the David Finch Lecture in Melbourne recently.

During the Brexit campaign back in 2016, a TV debate became quite infamous. After many experts spoke of the dangers of Brexit, and the loss of employment and GDP as a result of such a decision, an audience member stood up and bellowed:

“That’s your bloody GDP, not ours!”

This hit on a very important point. Public opinion had reached a point where people didn’t believe they were sharing in the general wealth of the country. Because of increasing inequalities in the developed world, ‘economic growth’ was no indication that everyone was benefitting. And no one had a satisfactory response to the above statement.

Enter, Andrew Haldane…

Andrew conducted an analysis of not just the aggregate impacts of Bank of England policy since the GFC (e.g. unemployment, inflation, economic growth), but also how these impacts were distributed amongst different age, wealth and income groups, so that he could determine exactly who benefitted and who lost from this Central Bank's policies.

Following the GFC, the Bank of England dropped interest rates by 5% and flooded the market with £375 billion worth of quantitative easing. The evidence is in – this policy unambiguously helped support GDP, employment and inflation. In fact, the average household income and wealth were boosted by £9,000 per year and £20,000 respectively (compared to if the Bank of England did nothing).

But one of the often-quoted costs of such policy is that it has squeezed the incomes of self-funded retirees through low interest rates on their savings. This helps to explain why surveyed people over 55 are particularly mistrusting of Bank of England policy over the last decade.

But what is overlooked is that these policies also supported stock and asset markets – benefits which accrued mostly to older and wealthier individuals, but to an extent that was no greater than existing inequality levels.

Furthermore, while younger individuals didn’t benefit as much at the hands of a stock or asset market boom, they did benefit from lower mortgage repayments at the hands of record-low interest rates (more so than older individuals who were less likely to still have a mortgage). Younger individuals also benefited more so than their elders from the employment levels that were supported by Bank of England policy.

So it seems public mistrust is rooted in a focus on the direct impacts of Central Bank policy (older individuals losing income on their savings), not the indirect impacts (wealth gains from asset market booms).

Conclusion – the distributional impacts of Bank of England policy across age, wealth and income groups are small and inconclusive. Not only did policy support economic aggregates, it did NOT worsen inequalities. Accounting for all these direct AND indirect impacts, virtually all age, wealth and income groups benefitted from Bank of England policy, to an extent that did NOT worsen inequality levels. Yes, the wealthy benefitted more than the poor. But not to any greater extent than their current income and wealth levels reflect. So relative inequality did not worsen.

Sell your success!

So in reaction to the above statement that “That’s your bloody GDP, not ours”, the response should have been:

“No, it’s your GDP too!”

This is the message Central Banks need to sell – not just the aggregates, but how their policy helps individuals. And to the extent that anyone suffers at the hands of Central Bank policy, government policy (tax policy, infrastructure, income support, etc.) should do some of the heavy lifting too.

Sell your success, Central Banks! Your independence (and our livelihoods) depends on it.