Select Committee on Treasury Minutes of Evidence

Examination of witness (Questions 60-79)



  60. Given that NAIRU is a bit of a will-o'-the-wisp and people talk about it but nobody knows where it is, is it really a useful concept?
  (Ms Barker) It is a useful concept in so far as it is absolutely right when you are sitting down taking a decision on monetary policy to ask yourself the question "What is the state of the labour market? Is it such that the rate of wage growth is likely to be increasing or decreasing?" I cannot imagine sitting down to have that conversation without thinking about that. If you were to ask me do I think it is right to have in my mind for all time a figure such as five per cent, 5.2 per cent, seven per cent, any of the figures that people have set forward as the NAIRU, and think that will apply always I would argue absolutely no, I do not think that would be right.

  61. Could you ever pin it down or refute it by empirical means?
  (Ms Barker) Refute a particular level?

  62. Yes.
  (Ms Barker) Yes, it is certainly possible to refute a particular level.

  63. Or the concept as a whole?
  (Ms Barker) No, I do not think you can refute the concept as a whole. In a relatively trivial sense there is clearly always going to be some low level of unemployment at which if demand increases any more there would be upward pressure on wages, unless you had a controlled economy in which you never allowed anybody to ask for wage increases.

  64. In response to question nine you say that you do not regard an average inflation rate over two years of two per cent as a failure by the MPC to achieve its key objective. Likewise, you would not regard an average of 2.9 per cent as a failure. Would it be correct, therefore, to say that your interpretation of the remit is to keep inflation at anywhere between two and three per cent?
  (Ms Barker) No, I would not say that. I thought quite hard about the answer to that question and the way I phrased it was to try to make clear the strong commitment to symmetry. I think I added that although inflation had been lower than target, on the whole there were not many signs that it was on a downward trend and, equally, I qualified the comment about 2.9 by saying I would feel differently about 2.9 if it was clearly on an upward trend. It is right when you look at a period such as we have just had when inflation has been running below trend to look at the factors that have come along and ask if there have been special factors that, as it were, have been difficult. I referred, I think, to the continuing and rather perplexing strength of the exchange rate as being one of these factors that perhaps accounts for why inflation has not been at the target. In the sense of what you are trying to achieve, it is right that you set out to achieve the target but it would be pretty difficult to hold the inflation rate at 2.5 per cent in every month.

  65. Do you genuinely feel that there is symmetry, so that you are no more anxious about the turn out being above 2.5 than about it being below?
  (Ms Barker) Personally I think symmetry is important. We have come out of a very long period, nearly all of my time spent as a working economist, in which the great thing that has worried us all has been inflation. However, I do not think that should make any of us forget that there is also the prospect of deflation. Once you have adjusted 2.5 per cent for some of the technical errors in measuring inflation, it is not a terribly high inflation rate. If you were to drift too far below it then you might start to become worried about deflation. In that sense I think it is absolutely right to operate the target absolutely symmetrically.

  66. Do you consider undershooting the inflation target for the last two years, and possibly continuing to do so for the next two years, as a policy success?
  (Ms Barker) I think I said this in my answer, I do not suppose the MPC set out to undershoot the target. In that sense they can be said to have failed but I would not regard it as a serious failure. It has certainly not brought us into territory where I start to be worried about deflation.

  67. There has been mooted some idea it would be beneficial if our target was consistent with similar inflation targets in Europe of two per cent. Would you subscribe to that view?
  (Ms Barker) No, I would not subscribe to the view that I would want to change the target while we are measuring it on the basis of RPIX. There are two differences between the inflation rate that is used in Europe and the one we use here. One is that we use an arithmetic mean here rather than geometric mean, I think this averages out at about half a per cent difference between the two numbers. The other difference is that housing costs and certain other things, but mostly housing costs, are less well accounted for in the European inflation rate. We know, of course, that our own HICP is considerably lower. I think while you are using RPI, RPIX at 2Ö per cent is the right target to stick to. As I said in my answer, I do not think just because you have been undershooting it for a period it is an argument for lowering the target any more than if the MPC had been achieving an inflation rate at average three per cent would be a reason for raising it.

  68. Would there be any benefits in trying to harmonise inflation targets with the European Union?
  (Ms Barker) In terms of the two differences I have talked about, I do, as a matter of fact, personally think, as many people do, that it might be preferable to use a geometric approach to the recalculation of inflation. I do not, however, consider that in the context of the UK where housing plays such an important part that harmonising with an index which does not give quite the right weight to housing cost would be right. The European Union, of course, is always moving to improve the target and it might be that is something that is right in the future. I would just like to restate something which is that I think one of the good features of the new system which we have had since 1997 in the UK is we have had one inflation target and stuck to it and it has worked quite well. I personally would quite like to stick to it for a few more years yet in its present form.

Sir Michael Spicer

  69. Just one very quick question, a supplementary, if I could, on the question of symmetry. I wonder whether you might feel sometimes one is a bit glib about this idea that symmetry is a good thing. Why should it be as bad to wipe out inflation as it should be to have rising inflation? Why should symmetry be a good thing?
  (Ms Barker) I think the reason that I mind about symmetry is straightforwardly to do with the dangers of deflation. There are well known costs to having inflation but they do not really start to operate at around the levels we are talking about. There are, however, very considerable disadvantages to deflation. I think there are serious risks if you have a target so low that any divergence below it would start to move you towards deflationary territory. It is in that sense that I think it would be wrong to not operate this target symmetrically.

  70. You would accept that any inflation is a measure of various parts of the economy or economic performance being incompatible with each other. It is a measure of blockage, it is a bad thing in inflation, any inflation?
  (Ms Barker) No, I do not think I would necessarily regard any inflation as being a bad thing. In certain senses we all know that prices and wages sometimes tend to be stay down as people do not like cutting their prices and wages and so generally a low level of inflation which allows relative price adjustments to go on across the economy, some things to become more expensive relative to others, is thought of as a reasonably good result.

Mr Kidney

  71. On exchange rates, do I understand in recent years your view has been sterling is over valued and that this is a temporary thing and will correct eventually, albeit the temporary period has lasted longer than we thought?
  (Ms Barker) I do think that sterling has been over valued in the sense that it has been running at a rate certainly against the euro, of course, and in the early part of that period the deutschemark, which has made it very difficult for companies exporting into that area. I think if you look at what has been happening to investment in manufacturing or margins of companies exporting there is clear evidence that is true. In that sense the data opens up some longer term worries about trade deficit sustainability, long term sustainability of growth. I would like to say, I am sure I have argued, and I am sure I have always given all the caveats to it, that I therefore was convinced that sterling would at some point fall back. But, of course, it is perfectly possible that sterling will not fall back and that the economy will adjust to this new level. My view obviously, since I believe it is over valued today, would be that there would be costs of doing that.

  72. Does that mean you have changed your view on that last part of my summary, that you no longer think sterling is going to fall back in value?
  (Ms Barker) No. I still, on the whole, think it is more likely that sterling will depreciate against the euro over the next couple of years than that it will rise. I have to say I do not hold that view strongly, I do not think any economist ever holds a view about exchange rates very strongly.

  73. In your answer to question 18 on the questionnaire, you say it is impossible for the MPC to have an exchange rate target as well as an inflation rate target. Why is it impossible?
  (Ms Barker) I think the most direct reason is sometimes the two may conflict with each other and in that case it would then be impossible to set interest rates to achieve the target. It is also true, of course, if you were to have only an exchange rate target, I would have to say your chance of achieving it would be rather remote and there is a great deal of uncertainty between what happens to interest rates and what happens to the exchange rate, but the more important reason is simply that the requirements of the two will quite often diverge and it will simply be impossible to meet them.

  74. If we talked about a different language and objective for ameliorating the worst effects of an over valued or an under valued currency, would that be a reasonable objective for the MPC to have?
  (Ms Barker) No, because I think that would still, at the limit, bring you up against the same difficulty. You would then be left with the point at which you would say "If I were to do this it may ameliorate the worst difficulties of the exchange rate" to use your words ". . . but it would put the inflation target at risk". That would mean that you were imperilling what I have said clearly I believe to be an important objective, that of achieving the target.

  75. The MPC has other objectives now, to aid Government's policies, particularly in relation to growth and employment. I did not hear you complaining that you cannot carry out those objectives as well as hit the inflation target.
  (Ms Barker) No, but in the remit they are expressed as clearly subsidiary objectives. The first priority is to hit the target. It is right when you are looking at deviations from the target and you are thinking about how to get back to it, to ensure that you do not do so in such a way that you are going to create a lot of disturbances and put the achievements of the longer term growth targets at risk. That is the way in which I would understand that second part of the target.

  76. Would you have any objection to an objective to ameliorate the worst effects on our economy of an over valued or an under valued currency if it was a subsidiary objective to hitting an inflation target?
  (Ms Barker) I think I would have the technical difficulty that it would be extremely difficult to achieve if you were to imply by that you would then have to manage the exchange rate in some way. I would point out that it seems to me already to be adequately covered by the wording we have because, after all, the problems that arise because of an over valued or under valued exchange rate are precisely that it creates problems for output and employment. Apart, of course, from the impact it has on inflation because what is happening to the exchange rate is taken into account in inflation forecasts. I am not sure what I think your form of wording would add to the present way in which the MPC target is set out.

  77. Let me try to come at it from a different direction. Do you yourself have any sympathy with those parts of our economy that are hit the worst by an over valued currency? You mentioned in your questionnaire manufacturing, agriculture and tourism, for example.
  (Ms Barker) Yes, of course, it would be strange not to have sympathy with people who were under difficulties.

  78. Would you like to take action as a member of the Monetary Policy Committee to do something to help them?
  (Ms Barker) Yes, I would, and the action I would like to take is to deliver the Government's inflation target and price stability because I believe that in the long run that will be in the best interests of all those sectors. Clearly I recognise they have difficulties and it would be extremely odd to say I was not sympathetic to those difficulties and have not—wearing my CBI hat very briefly—put forward policies in the micro fiscal area to try and address those. As a member of the Monetary Policy Committee I think their interests are best served by the achievement of the inflation target.

  79. On those occasions where the two decisions seem quite reasonable, and we have just had the debate in April as to whether it should have been a quarter of a per cent or half a per cent, where they are close decisions do you feel that those sectors have perhaps not been given the weight they should have been given in the total consideration of the committee in the past and you are coming through to make sure that they do have their fair consideration?
  (Ms Barker) No, I do not think I would feel that. Certainly there have been many members of the committee who have very thoroughly done the job of going around to talk and understand what is going on. I do not believe that people differ because they have different views about how sympathetic they feel towards sectors. Differences on the committee tend to arise because they take different views of what is going on in the economy and take different views, for example, of how bad the US situation will be and what the impact is here, what is going on in terms of domestic spending, how far will consumers be spending rather than saving. It is those differences that tend to divide the committee, not a view that we should be, as it were, nicer to one sector or region.

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