CENTRAL BANKS ROWING BACK


There is no consensus, even within the Bank of England (BoE), over the credence to be placed in the BoE’s economic forecasts.


In the months following the shock Brexit referendum result, the central bank’s projection, on an unchanged policy assumption, of extreme near-term weakness in the UK economy prompted its policymakers to reinforce an already ultra-accommodative monetary policy with additional easing measures. But far from slowing in the wake of the vote, UK economic activity appears, if anything, to have picked up. Mr Carney, as BoE Governor, appearing last month before a parliamentary committee, argued that the much more favourable than expected economic outcome was partly a result of the BoE’s timely action. However, Mr Haldane, the BoE’s Chief Economist, had previously drawn attention to the post-referendum forecasting failure as illustrating a broader crisis in economic analysis. He pointed out that the inability of standard econometric models to project outcomes had been most dramatically evident in the fact that none of those models had given forewarning of the global financial crisis of 2007-09, and of the economic damage it was to inflict.


For economic forecasters, the financial disruption, starting in 2007, came out of left field. Model-tending forecasters did not regard the variables that might have given warning of troubles ahead as the proper focus of their attention. Mr Haldane now recognises this and probably feels very uncomfortable being charged with the task of predicting how the UK economy will fare in post-Brexit conditions, when he knows the standard approach to forecasting is badly flawed. For Mr Carney, however, it is presumably important, above all, to insist on the BoE’s credibility. Without that credibility, he would have no basis for hoping that anything the BoE did could ever be effective. Consequently, he makes a virtue of his difference of view from Mr Haldane, claiming it shows the BoE is free from ‘group-think’.


To be sure, the BoE may well have felt last August, when it eased policy after the Brexit vote, that it had good reasons, aside from its gloomy economic forecasts, for taking action. For a week or two it had looked as though the UK commercial real estate market might have been melting down, with potentially dire consequences for financial stability. However, the BoE, sticking to the official line that it directs its monetary policy so as to achieve an inflation target, needed the backing of a weak economic forecast to justify the measures it deemed necessary to stabilise the real estate sector. Chief among the macro-economic results of the BoE’s action was further weakening in an already soft sterling exchange rate, higher import costs and, hence, a tighter squeeze on households’ real disposable incomes. If anything, this train of causes and effects would have reduced economic growth, not boosted it as Mr Carney claims. He is probably still thinking, though, of the potential disaster in commercial real estate that was avoided in the second half of last year and judging the BoE’s performance by that yardstick.


FOR ECONOMIC FORECASTERS, THE FINANCIAL DISRUPTION, STARTING IN 2007, CAME OUT OF LEFT FIELD.


14 | ADMISI - The Ghost In The Machine | January/February 2017


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