The fundamental flaw at the heart of the Bank of England

Telegraph

25-05-2025

Andrew Bailey had to admit that the Bank of England had 'some very big lessons' to learn.
The policymakers inside the Old Lady of Threadneedle Street appeared to have acted too late to stop inflation soaring to a 41-year high of 11.1pc in October 2022.
The hangover from the pandemic and Russia's invasion of Ukraine had upended supply chains around the world but the Bank's interest rate remained at only 2.25pc when UK inflation peaked two and a half years ago.
It would not be until August 2023 that interest rates would reach their pinnacle of 5.25pc as the Bank scrambled to bring surging prices under control, leaving households across Britain counting the pennies as the cost of weekly shops rocketed.
'I think there are some very big lessons in how we operate monetary policy in the face of very big shocks,' Bailey told the Treasury select committee in May 2023.
'Because the shocks that we have faced have been unprecedented.'
Enter Ben Bernanke.
The former head of the US Federal Reserve was tasked with reviewing the Bank of England's forecasting and communications after its failure to predict the sharp rise in prices.
Published in April last year, his findings recommended 12 changes the Bank should make, including a number of proposals on how it should resolve communication problems.
But there are concerns that the Bank's response could make the situation worse.
One reform is a move away from the Bank's central forecast, which deputy governor Clare Lombardelli said was 'quite the philosophical change' for the institution.
The forecast on what will happen to things like inflation has been a way of setting out the best collective judgment of the nine-strong Monetary Policy Committee (MPC), which sets interest rates.
In February, the forecast showed that the Bank expects inflation to rise sharply to 3.7pc by the third quarter of the year.
But now the Bank is moving towards using several 'scenarios' created by staff which help to determine different outlooks for the UK economy and possible inflation paths.
It is a process that is still being developed and the Bank still outlined a central prediction that inflation would rise to 3.5pc in the third quarter of 2025, a weakening from the previous report three months earlier.
While the central forecast has long been the main focus of the Bank's communication with the public, it has its drawbacks.
Lombardelli admitted in a speech earlier this month that the forecast method 'risked the impression that monetary policymakers at the Bank of England put more weight on a single view of the outlook, or that we have more certainty, than we actually do'.
Going forward, Threadneedle Street looks set to move towards a forecast that is more in line with other central banks, including the Federal Reserve and the ECB, where staff produce a forecast alongside several scenarios.
Speaking in Reykjavík this month, Bailey underlined that a single forecast 'does not work as well in the world we now live in where we are exposed to big shocks to supply as well as demand'.
He also warned it also caused problems for members of the MPC, who were being held 'individually accountable for their decisions'.
The proposed change is a 'sensible thing' that will help to 'relieve the pressure that came with the unified forecast' says Jens Larsen, head of geoeconomics at Eurasia Group.
However, it also will mean that the Bank has to communicate complexity and 'that's inherently a difficult thing to do'.
Despite all this it remains clear there is a tension between how the MPC communicates its collective view and how individuals express their perspective.
'More generally, the focus on individuals' votes and specific utterances at parliamentary appearances tends to create an environment which over-weights the importance of individual personalities in the setting of UK monetary policy,' said Huw Pill, the Bank's chief economist, in a speech in October.
There is a delicate balance to be struck between ensuring transparency and causing confusion, says Professor Stephen Millard, the interim director of the National Institute of Economic and Social Research (Niesr).
'I don't think you can have too much transparency, but equally, I can understand that if you have one MPC member say one thing one day, and then another MPC member said something completely different the following day that could lead to a lot of confusion, particularly amongst the general public,' he says.
Meanwhile Pill remains wary of providing too much insight into his own thinking about the outlook for the UK economy.
'Sometimes I worry about exploring the dark recesses of my own mind ... because I think there are some complexities and uncertainties which are difficult to communicate,' he told the audience during a speech on the monetary policy outlook at Barclays last week.
He warned that 'being more transparent about the complexity of discussions complicates the clarity of the collective message of the committee to markets, the public, and media'.
This has become 'an important challenge' for the Bank, he said.
Also nestled among Bernanke's 12 recommendations is his proposal to eliminate some of the Bank's most complex charts.
However, this seemingly innocuous suggestion has faced backlash from a number of economists who believe it will harm communication if they are abandoned. The charts demonstrate the range of possible values for measures ranging from inflation to unemployment.
Laura Coroneo, a professor of economics at the University of York, highlighted worries that if the Bank adopted this measure it might lead to a loss of helpful information for the public.
'There is so much uncertainty. It is important to convey this uncertainty also because with scenarios you can only analyse a handful,' she says.
Even with recommendations from Bernanke there are still key areas of communication missing from the Bank, according to Millard, of Niesr.
'What the [monetary policy] report and the press conference doesn't do at all well is give you a feel of how policy is likely to respond over the coming months and years,' he says.
He said a projection of where each MPC member thinks interest rates are heading in the coming months and years would help to show how the Bank is responding to changes in the UK economy.
'What's missing in the communication, I think, is a sense of how does policy respond to what's going on in the economy,' he said.
Yet the outlook for monetary policy is set against a backdrop of unpredictable economic shocks and challenges with data reliability. Pill said all of this has made the Bank of England forecast less reliable.
Speaking at a conference in Austria last week, Pill suggested that the Bank needs to 'think about how to evolve our communication' to show the increased level of volatility in its central forecast.
'There may be reasons to think about making inflation forecasts less prominent,' he said.
Alongside concerns about forecasts the Bank has set itself the task of improving its accessibility to the general public. It has attempted to do this by requiring the language used in its reports and speeches to be at the reading level of a seven-year-old.
More often than not, it falls short on this target with complex jargon used in many briefings.
With so much uncertainty in the world economy at present, there has arguably never been greater need for the Bank of England to simplify how it communicates with the public.
A key way in which it attempts to do this is at its press conferences. Yet despite meeting eight times a year to decide whether to cut, hold or raise interest rates, it only holds four such briefings.
'Allowing people the opportunity to ask questions more frequently at every Bank of England decision is part of our right,' says Jumana Saleheen, of Vanguard Europe.
He said the Bank should be 'standing up in front of people and doing a press conference and being open to questions from the press'.
As uncertainty clouds the global economic outlook and the scars of double-digit inflation remain visible, perhaps the one thing that is clear is the need for improved communication from Threadneedle Street.
'A central bank needs to be accountable,' Saleheen said.
'Do we feel that the Bank of England is explaining their decisions at the frequency that's optimal? My view is that it's a bit less than optimal.'