Examination of Witnesses (Questions 1-19)
20 NOVEMBER 2003
MR ROGER
BOOTLE, PROFESSOR
SHEILA DOW,
PROFESSOR CHRISTOPHER
PISSARIDES AND
MS BRIDGET
ROSEWELL
Q1 Chairman: Good morning, everyone.
Thank you for coming along to this session. Can I ask you to introduce
yourselves formally, for the shorthand-writer, please?
Ms Rosewell: Bridget Rosewell,
Chairman of Volterra Consulting
Professor Pissarides: Christopher
Pissarides, Professor of Economics at the London School of Economics.
Professor Dow: Sheila Dow, Professor
of Economics, University of Stirling.
Mr Bootle: Roger Bootle, of Capital
Economics.
Q2 Chairman: Thank you. I will start
with the well-publicised comments of Mervyn King, I think in his
Leicester speech, when he said that the economic success of the
past decade is unlikely to be continued over the next decade as
the economy has used up most of its spare capacity. Do you agree
with that general assessment? Who is going to start: Sheila?
Professor Dow: The one qualification
I would raise for this assessment is due to the change in the
GDP estimates, which suggest that investment growth has been higher
than we expected, so there may be more capacity in that sense.
In general, it is a rather worrying assessment.
Professor Pissarides: Although
he did not have the information we have now, I agree, but I think
there is a good deal of uncertainty attached to that assessment.
Ms Rosewell: I think that there
is the potential for more capacity growth than necessarily is
included in the estimates. For one thing, the increase in output
that apparently we have now in the estimates, compared with what
we did have, suggests that, in effect, we were able to run at
higher capacity utilisation rates in the past than was previously
thought. It depends a lot on how much difference you think that
makes to the trend rate of growth, and it does not need to make
very much difference for there to be increasing scope for capacity
growth in the future. I think you have to be slightly careful
about what the dynamics are of this, particularly when growth
which is largely service sector oriented requires much less in
the way of physical capacity and physical investment than does,
say, manufacturing growth. I am moderately optimistic.
Mr Bootle: I would agree broadly
with the Governor's assessment, although I think there is a second
issue, the first one being, of course, how much spare capacity
there is. The second issue is about management, that is to say,
is the economy going to be as lucky and as well managed as it
has been, the combination being important, in order to be able
to realise the trend rate of growth and the way that the economy
has been both lucky and well managed over the last few years.
Q3 Chairman: Looking back to the
July rate cut, with hindsight, was that a mistake?
Professor Pissarides: No, I do
not think it was a mistake, given the information that we had
at the time. The economy was not growing up to trend at the time,
there was still recession in the main trading partners of the
United Kingdom, there were no inflationary pressures in the economy
to speak of. The only worrying market at that time was housing
debt, consumer debt associated with housing, which had been present
for a while, so I think the decision to lower interest rates at
that time was the correct one, given the information we had at
that time.
Ms Rosewell: To say that we would
have made a different decision had we had different information
is not very helpful I think, because the point is that you can
make a decision based only on the information that you have. I
agree with Christopher, based on that information, that was the
right call.
Mr Bootle: I agree.
Q4 Chairman: Now on to the November
rate rise. First of all, was that appropriate, and was there a
case for increasing the interest rates by a Ö% rather than
a quarter?
Ms Rosewell: I think that had
you increased interest rates by half you would have run the risk
of generating a very sharp correction in markets across the piece,
not just the housing market but also stock markets, and you would
have signalled a very sharp increase in interest rates by doing
that. A half on top of where we were is a big rise, it would not
have been a big rise 10 years ago but certainly it is a big rise
now. I think that would have been completely out of scale. What
they are trying to do is nudge the situation. It is not the case,
after all, that we are in boom across all markets.
Professor Pissarides: We have
to be careful about two things concerning the rise in the interest
rate in November. The first one is, where do we think interest
rates would go next, given the new information we had; the second
one concerned timing. On the first one, I think the MPC was absolutely
right in saying that the next move for interest rates was on the
up, that interest rates would be increased. On the timing, I have
some doubts, without being absolutely certain, when the correct
timing would be because that is a difficult decision that is facing
monetary policy-makers. The November meeting and the time that
the rise took place I think was the earliest we could have had
a rise and argue reasonably that we needed it, given the information
that was coming through. We could have waited another month and
I do not think there would have been any damage done to the economy.
On the question of how much should the rise be and should half
have been better, in my view the answer is that it may have been
worse if we increased by a half instead of a quarter. Given what
I have just said, I think it was more of a pre-emptive rise, given
the information we had, and raising by a quarter of 1% is more
cautious and wiser in the circumstances than raising by half of
1%.
Professor Dow: Yes, I agree that
it was wise to stick to the quarter point rise. The situation
was very finely balanced and the rate continues to be finely balanced
between the different considerations of holding back inflationary
potential, on the one hand, and, on the other hand, not promoting
greater fragility in the financial structure. The move by the
MPC is very much a signal not only about their analysis of the
situation but also about their intentions, and the minutes of
the meeting that have come out since have been quite influential
in calming expectations about further rises, which I think is
quite appropriate.
Mr Bootle: I think it depends
what exactly the Bank is trying to achieve, because I think there
is a fair amount of mystery and difficult issues to be prodded
on this particular rate rise. In particular, in the Inflation
Report, the Bank makes next to nothing of the impending transition
to HICP. On that HICP measure I would not have thought most assessments,
if the target is going to be set at 2%, would come to the conclusion
that there was an inflationary danger, and the Bank's response
to that is simply to ignore the issue. Similarly, even on the
RPIX, personally I think the Bank's assessment is rather too bullish
of the economy next year and rather too worrying about the inflation
prospect. The reason why I say that there are some issues to be
discussed here is that possibly you could have been aiming to
set monetary policy at this stage according to a rather different
principle. Namely, you might well be extremely worried, within
the broad context of inflation targeting, about the housing market
and the surge in personal borrowing. If you were then I think
there would be a reasonable case for increasing interest rates
by Ö%, because a Ô% has not actually shocked people
enough, I think, and at some point the Bank may have to consider
seriously increasing rates by a half.
Q5 Chairman: The MPC's strategy in
recent years has been to increase domestic demand to offset the
weak external demand. With household debt and the trade deficit
both hitting new records this autumn, is that strategy now hitting
its natural limits?
Ms Rosewell: Clearly, the MPC
is concerned that further increases, particularly in unsecured
borrowing, run the risk of destabilising the situation. If we
look at secured borrowing, for example, certainly it is not the
case that looks particularly vulnerable and we are running at
very low levels of repossessions and levels of arrears. The ability
of households to finance their borrowing is still not, I think,
at a dangerous level, nor is it obvious that equity withdrawal
is being used to finance consumption. This is an area which is
quite difficult to get a handle on, but if you look at the discussion
in the Inflation Report certainly it would suggest, on the best
evidence that we have got, that we do not need to panic about
that. On the other hand, certainly you would not want to see continued
increases at these sorts of rates in that borrowing level, but
that means you want to nudge it down. To that extent, I think
I would disagree with Roger, because I think there is a significant
risk that if you make too abrupt a termination then everything
just goes into reverse. Then you are quickly at a point where
you have to start cutting interest rates again because consumers
have stopped spending as well as borrowing, because they feel
very uncertain and because they think that if there is a half-point
rise there must be only further increases on the way. I think
that balancing act, which the MPC clearly is trying to make, remains
a difficult one. In other words, without consumer spending growth
the economy goes nowhere. At the end of the day, that drives the
economy. Therefore, it is not the case that there is no more room
for consumer spending, there must be room for consumer spending,
but it is a question of trying to manage expectations gently rather
than abruptly.
Professor Dow: Could I disagree
with the suggestion that we have enough information in the Inflation
Report to make a judgment about financial fragility. The information
on household financial structure in the Inflation Report is all
aggregative. In fact, what we need to be concerned about is how
close some sub-groups are within that aggregate to financial difficulties,
because once a significant group face financial difficulties and
are faced with falling house prices that could trigger a reaction
which would lead to house sales and much more generalised financial
distress. I was disappointed not to see more in the Inflation
Report disaggregating the information on household debt.
Q6 Chairman: I think the Governor
mentioned that in a recent speech when he said there is insufficient
information on household debt, and I think he is commissioning
a study on that in a little while?
Professor Dow: I believe that
is the case, but the Financial Stability Review in June
did provide some information on disaggregated data, and certainly
I am looking forward to seeing the report to which the Governor
refers.
Mr Bootle: I think the policy
of forcing domestic demand clearly has been the right policy in
the circumstances, but the longer it goes on the greater the subsequent
dangers become. If it is the case that world demand and the rest
of UK domestic demand is set to revive then I think it is imperative
for the Bank to make sure that consumer demand glides down, albeit
gently but to a sustainable picture reasonably quickly and that
we do not get a dangerous bubble inflating in the housing market.
I agree very much with Bridget's comments about nevertheless you
do not want to bring people up so you cause worse than a slowdown
and have to cut interest rates, that would not be advisable. Clearly,
the Bank has got a very delicate balancing act to perform here.
At the same time, you do not want to be increasing rates so gently,
I suggest, that borrowers and people in the housing market take
no notice whatsoever. If rates are increased very gently every
so often by a Ô%, I think that could be dangerous.
Professor Pissarides: There are
two factors in the MPC's thinking that have been important here,
I think. One of them is that the prospects for aggregate demand
are good, because the United States economy is recovering well
and there are positive signs in Europe, although they have not
appeared yet in the official statistics, they have appeared in
confidence indicators, both from businesses and consumers. The
second positive factor is that investment demand in the United
Kingdom was better than known earlier, that came up in the revision
to the official statistics that the ONS has made. In those circumstances,
I think the MPC's thinking was probably it was the right time
to try to contain consumer demand. What was said about consumer
demand by Roger, in particular, I agree with but, I do not think
consumer demand will need to glide down for the debt to come under
control, I think it can rise more slowly and wait for the rest
of the economy to catch up, as it were. I do not think we are
quite at such dangerous levels that we would need to reduce it.
Mr Bootle: It is filling up, not
gliding down.
Professor Pissarides: I am sorry.
Where I see the downside risks would be in the international economy
not recovering as anticipated, especially Europe, because the
United States hopefully is showing more confident signs that demand
will continue at this high level.
Chairman: Before I hand over to Angela,
can I thank all of you for the papers that you produced for us
before the meeting, and for the effort you have put into them
and the quality of the papers, they are very, very helpful to
us.
Q7 Angela Eagle: I want to ask a
question about the sensitivity of rate rises, because, as both
Bridget and Roger have pointed out today, we are now in ¼%
rises. Roger said maybe we need a half, Bridget said well a half
might be catastrophic, and, exaggerating only slightly, it might
shock people. Are we getting to the stage where our adjustments
now are so minor that they are not giving really very many signals
at all outside, especially to consumers, when we are worried about
indebtedness? Are the tweaks so tiny that nobody notices?
Ms Rosewell: No, I think that
is wrong actually, because if interest rates were back at the
sort of levels that we had a decade ago, and you were talking
about quarter points, then that is right, it would not be noticed.
It is a question of how much money that translates into relative
to the money you are paying already, if you like, so if it is
a personal loan, or whatever, and in that context a quarter point
is much more significant than it would be if the rates were much
higher. Do people take any notice? Given the proportion of mortgages
on a fixed rate, for example, the sort of amount of money that
a quarter point change might make to an average mortgage across
the book, if you like, the answer is about £5 a month. You
might say, that is not enough that it will make a significant
difference. Of course, that is more for the people who are on
a variable rate, but if there is a good proportion on a fixed
rate then across the piece it makes less difference. I think it
is a question not just of the amount of money but the perception
that it gives.
Q8 Angela Eagle: Up or down?
Ms Rosewell: Up or down, exactly.
It is not just about the amount of money and the size of the rise,
also it is about a perception, "Have these things now turned
round and we are going to see increases in interest rates?"
Rather than "We are not going to see any changes," or
indeed "We're on a downward path." I think it is perceptions
that matter to consumers as much as any given amount of money,
and those perceptions can be very important particularly at the
margin, as Sheila was pointing out. Also it is a question of the
distribution, and that can make a big difference.
Q9 Angela Eagle: Do you think that
we need more information about percentages of people on those
kinds of mortgages, more disaggregated information, in other words,
so that we can assess more how that would work? Presumably, there
would be a switch into fixed-rate if people thought that interest
rates were going to rise for a significant level of time. Do we
not need to track that more effectively than we do?
Ms Rosewell: It moves very quickly.
People do respond. One of the things certainly that you see is—as
you know, probably, I am a director of a building society—we
notice how quickly people respond to interest rate incentives,
one way or the other, so they will move from fixed to variable
and vice versa, depending on their calculations of what things
are worth doing and what things are not worth doing. It is quite
a hard thing to track because it does change quite quickly. I
agree that in principle it will be nice to understand it better,
but you do get an awful lot of movement.
Q10 John Mann: I would like to ask
a couple of questions on the labour market. There seems to be
a bit of a trend building up to suggest that wage-led inflation
is going to be a bigger problem in the next year, and yet, at
the time, productivity would appear to continue to be increasing
rather healthily. Is this concern on wage-led inflation a real
concern, is it an evidence-based concern, or is it probably speculative,
in your view?
Professor Pissarides: At the moment
I think it is rather speculative. Private sector pay has not been
rising at alarming rates. Public sector pay has been rising but
it has been catching up on losses that it made in the past. The
danger with public sector pay, if it is rising too fast, arises
when the private sector tries to copy what has been happening
in the public sector, but this has not happened yet and there
is no indication that it would happen, although there is always
uncertainty attached to what private sector wage negotiators might
do. For the moment I am not concerned about what we see in the
earnings statistics. Having said that, I think we have to be very
watchful because I think, if there are inflationary pressures
that will come in the future, they will come from the labour market.
Let me put that a little bit differently. If the labour market
starts showing signs of bottle-necks and earnings rising faster
than productivity then that would lead to inflationary pressures
and the Monetary Policy Committee would have to act quickly. To
repeat what I just said, I do not see that happening yet. On that
issue, maybe I should add that I attach a lot of importance to
the new work of the Bank of England on calculating indices of
labour market tightness that go beyond unemployment. I think that
is very important work.
Q11 John Mann: Perhaps I could explore
that issue, because that is new and important. To take a quote
from the current Inflation Report, it talks of taking into account
the size and composition of the entire non-employed adult population.
Is not that rather dated thinking and should we not be looking
also at the flexibility of the labour market and, for example,
the propensity of part-time workers to increase the number of
jobs they are taking as well as the number of hours they might
be working? Additionally, what about the role of the grey labour
market in this?
Ms Rosewell: I think that you
are right. Obviously, there are quite a number of changes that
are going on. I think though to say that this sort of analysis
does not go far enough is perhaps a little mean, given that at
least they are trying to look at what is happening not just in
the context of unemployment. In particular, one of the interesting
things is flows from inactivity, and looking at flows from inactivity
into the labour market is one of the things which seems to be
different, and understanding that a bit better. My guess would
be that is more important than changes in hours for part-time
work, or indeed taking more jobs as part-time work. We know that
there is flexibility in hours anyway, and that is quite well tracked
and has been over quite a long period. It is the tendency to continue
working for longer, in other words not to retire early, which
is going to be an important element in the labour market going
forward, and in part that is not flowing into inactivity in a
way that might have been the case earlier. Clearly that is a phenomenon
which has become more important and is going to continue to be
more important, as people are worried about their pensions they
will stay working.
Professor Pissarides: I agree
with that. I think it is a question of how much do you put in
the Inflation Report on the labour market. I agree with you. I
wish there were a little bit more. I try to read between the lines
and I see that there is concern with flexibility, there should
be concern. I think the underlying assumption is that probably
we have done enough, or done a lot, on flexibility that we could
rely on a flexible response from employers if the additional labour
supply were to come through. It is a rather optimistic scenario,
but the experience of the 1990s sort of encourages us to look
more optimistically at how flexible the employers' side in the
labour market can be. Given that flexibility that we have on the
employers' side then the right population group to look at, when
we are looking at labour supply, is the working-age population
group, from, say, 25 to 65, but we might go to even younger ages
and look at 16, 17 year olds to 25 year olds, as a potential supply.
Not only that, I think also we should look at the potential supply
of labour from abroad, especially from the new members of the
European Union, where they will have the freedom to come in and
work in the United Kingdom. Given the wage differentials that
we have, there might be an increase in the supply of labour there.
Then post retirement people staying in the labour force beyond
the age of retirement, as Bridget has just pointed out, to enhance
pensions.
Q12 John Mann: It seems to me that
there is a fundamental assumption built into inflationary forecasting,
and the title, section 3.4 in the Inflation Report is "Labour
market tightness", that there is going to be a problem there.
Is it not the case, in fact, that, looking back historically over
the last 10 years, there has not been that problem and commentators
have been surprised that it has not emerged as a problem? Is not
the real issue that we need to be looking at the propensity to
flexibility, which will incorporate regional flexibility as well
as a sectoral flexibility, in terms of the potential for the labour
market to create, or not create, inflationary pressures?
Professor Pissarides: As I said,
I agree with that entirely. Behind the supply of labour that is
discussed, behind the labour market tightness that is being discussed
in the Inflation Report, there is an underlying thinking of flexibility.
The reason why the economy surprised people in the 1990s is that
there was a very flexible response from the labour market, and
we should continue looking at that and hopefully keep it at that
level.
Q13 Mr Cousins: Just to follow on
from the point my colleague has made, and what I think is a very
interesting line of argument, almost the whole of the net growth
of employment in the last year is accounted for by the growth
of self-employment. Do you not think we may be looking at quite
a considerable change in the structure of the labour market that
perhaps analysts are not yet picking up?
Ms Rosewell: I have not looked
at self-employment numbers, but certainly what we have had is
changes in the structure of employment too, so that we have had
big increases in the number of people employed in the public sector,
for example. It is not the case that employment is static and
there are changes just in self-employment, there are big changes
in employment. The numbers in self-employment are relatively small,
so you can get big percentage swings with not that many changes
in the actual number of people. I think self-employment tends
to be still a residual, in other words, that is what you do if
you cannot get a job, generally speaking. There is a proportion
of people who like to be self-employed, or run their own small
businesses, like myself and Roger, but, generally speaking, most
people want to have jobs, and if they become self-employed then
that is because there is an issue in a particular sector or at
a particular point in time. I think what is most interesting in
the labour market at the moment is that changing structure of
employment, and one of the things I think is missing in the Inflation
Report is enough consideration of what is happening on the public
sector side of things. There are some estimates out of the ONS,
for example, about inflation in the public sector and productivity,
or lack of productivity, if you like, in the public sector, and
it is quite hard to get your head round how good those numbers
are. I would say it is that changing structure that one ought
to be looking at, at the margin in the labour market, rather than
at self-employment. I think that would be much more interesting.
Professor Pissarides: I am a little
more positive about self-employment actually. I think we have
to go back and ask where is the employment growth coming from,
where is the job creation in the labour market? The job creation
is in the service sectors, and particularly in new service sectors,
like business services, and in those service sectors there is
a higher fraction of self-employed people. In the United States,
for example, where they had this growth some years ago, there
is a lot more self-employment in those sectors where the UK economy
now is creating jobs. It is part of the changing structure of
the labour market. I think we will see more highly qualified,
professional, self-employed people, like my two colleagues here.
I think it is part of the normal development of the economy.
Ms Rosewell: It is still quite
small numbers, in absolute terms. It is never going to be a dominant
force in the labour market, do you think?
Professor Pissarides: It is quite
dominant on the margin when you look at the increase in employment,
because the increase in other employment in the last two years
has been quite small as well, and one small number, which is self-employment,
is quite a big fraction of the other small number, which is the
increase in other employment. There is an increase also in part-time
jobs, and more women, and especially more students, coming into
the labour force to get part-time jobs, which again I think is
a healthy development. It shows more flexibility in the labour
market, it shows that people are getting more into this enterprise
mentality, which characterised the United States for many years,
of doing not just the one thing and not looking beyond what you
are doing. You might be a full-time student but at the same time
you have five months of the year when you do not have to study
ten hours a day and, those five months, you might go out and look
for a part-time job and help in the overall productive process.
Professor Dow: I would say it
is applying increasingly to students during the time that they
are studying that they are taking on jobs, just to reinforce that.
If I could add, there is a further distinction to add to the one
that you have raised between self-employed and employed labour.
There is a table in the Report which shows the breakdown between
manufacturing employment in small firms and large firms, and it
shows that the growth is coming in the small firm sector. The
Bank does publish a lot of detail on small firms in other reports.
Again, it would have been nice to see more detail on that, because
it would give us a better picture of the composition of employment.
Q14 Mr Plaskitt: There is perceptible
growing optimism about the state of the world economy, and the
encouraging figures in the United States are part of that. To
what extent do you think we should worry about signs of growing
US protectionism? Does that have the potential to derail the recovery
of the global economy?
Mr Bootle: I think it is a serious
danger, yes, and, of course, we have seen just recently the reaction
of China to the latest US move. It is part of a general concern
which stems from I think the unbalanced nature of the world, the
fact that it has been too dependent upon American demand for so
long. Therefore, with these massive imbalances, Europe is still
not pulling its weight, as it were, in the generation of demand.
Japan is still pretty sluggish. From the point of view of the
state of development, you would think that countries like China
ought to be running a significant current account deficit, not
a significant current account surplus. The dangers overhanging
the world are several. As you point out rightly, there could easily
be a protectionist backlash. We have seen already the breakdown
of the trade talks at Cancun. This is just another stage in all
of that. Meanwhile, the dollar is looking extremely overvalued,
in my judgment, so it is quite possible that there could be a
combination of these protectionist measures and a fall of the
dollar, which could be quite damaging, I think.
Q15 Mr Plaskitt: Enough to stop in
its tracks the signs of recovery we have seen so far, would you
say?
Mr Bootle: I think so, yes.
Q16 Mr Plaskitt: Do the rest of you
agree with that?
Professor Dow: I think it is a
danger, and, just to put it in an historical context, the imbalance
of the role of the States stems actually from the design of the
international monetary system whereby the dollar is the key currency.
That is a market choice now rather than a design choice, but it
follows from the fact that there were such large capital inflows
into the States that they can run such a large current account
deficit. In a sense, that is part of the problem, which is not
of their making but it is inherent in the international monetary
system.
Ms Rosewell: The scale of the
deficits must be a risk. There are global imbalances. It is possible
to envisage an unwinding of those that would not cause severe
disruption. Equally, because they exist, it must always be a risk
that something very nasty could happen, that markets lose confidence,
that the dollar falls, that could be a reaction to a particular
institutional event, like an increase in protectionism, or a particular
set of limits being put on. That is the kind of risk that one
has to live with and monitor and try to be aware of. I am not
sure it is anything that we can do anything about.
Q17 Mr Plaskitt: Has the level of
that risk risen noticeably recently, or are you saying that it
is just a constant background risk?
Ms Rosewell: I think it is a constant
background risk. I am not sure I would say that it has increased.
Obviously, the failure of the trade talks is not good news, but
that is also part of a continuing pattern. I am not sure I would
say that it has risen dramatically. Maybe it has picked up a bit
as a risk, but I am not sure I would say it has increased dramatically.
Mr Bootle: I think it has increased
quite a lot because of the sheer growth of China and the sensitivity
within America to that growth, the number of manufacturing jobs
going. I think the underlying issue has been there for some considerable
time, but people are waking up now to the sheer size of the competitive
threat that China poses, and equally not offsetting that against
the opportunity that the development of the Chinese market causes.
American politics works in such a way that I can be quite clear,
I think, that worry about the competitive threat is going to dominate.
Ms Rosewell: That is absolutely
right, but, on the other hand, we have been here before, some
15 years ago, or so, maybe a bit longer, on the Japanese threat,
when there was exactly the same debate, if you like, about the
Japanese coming in and taking our jobs sort of thing, and American
politics responded to that. Nonetheless, we managed through that
risk, the deficits increased, the imbalances went on, but actually
it did not end in tears, on occasion it looked as thought it might
but it never did.
Q18 Mr Beard: The November Inflation
Report shows some slippage in the Bank's expectations of growth
in the eurozone, and yet last week there was more upbeat economic
data coming out of both France and Germany. Is it possible that
things are recovering finally for all the eurozone and is it the
case that it is essential there should be a better economic performance
in the eurozone before the United Kingdom export performance can
pick up?
Professor Pissarides: I have to
say, I was a little bit surprised by the pessimism that was expressed
in the Inflation Report, especially in view of the discussion
that went on before. It was pointing out to positive signals and
then, at the end, that imbalance, we are pessimistic about that.
I was a little bit surprised by that. I think we can afford to
be a little bit more optimistic, because there have been a few
quarters since when the confidence indicators from both businesses
and consumers have been rising, quarter in, quarter out, and usually
when that happens you would expect a pick-up of investment and
consumption spending to follow. True, we have not seen it yet
in the official statistics, but usually these things take time,
so I am a little bit more optimistic than the Inflation Report.
On the question of whether we shall expect to see first export
demand from Europe rising and then tighten here, my answer is,
not necessarily, but it would be good to have more robust statistics
about an international recovery before we tighten. This goes back
to the comment I made right at the beginning. I think it is clear
that the move in monetary policy was going to be towards more
tightening. Given that we are relying on the United States economy,
which is expanding mainly on the back of fiscal deficits, we are
relying a little bit on the forecasts for the European economy,
I think if we had waited a little longer and actually seen these
things happening, I would underline, especially in Europe, we
would have got the balance better.
Mr Bootle: I would agree with
Chris and sympathise with the Inflation Report's worry about the
eurozone. It is true that the confidence surveys have picked up
but they are far from being reliable indicators, they have disappointed
on a number of occasions in the past. I think particularly it
is worth recognising that not just Governments' forecasts but
the outside consensus forecast has a prolonged record of seriously
overestimating eurozone growth over the last few years. The notable
factor that I would put between a number of other factors, first
of all, with the end of the war in Iraq and the fall-back in worry
about terrorism, and all sorts of ghastly things which dominated
opinion earlier in the year, I think it is natural you should
expect there to be some sort of up-tick in confidence over the
last few months, without necessarily, I think, meaning very much
about the underlying economic situation. The second point is the
rise of the euro, where now it has surpassed its previous peak
against the dollar, and if I am right in thinking the dollar is
going to move a fair bit weaker, the euro is almost bound to move
stronger and that I think is going to be a serious worry for the
eurozone economy. Also I think there is a question about the stand-off
between the policy authorities over the stability and growth pact,
where I had hoped that there was scope for reductions in interest
rates. Certainly if the euro does strengthen a fair bit more then
in my view there ought to be further reductions in eurozone interest
rates. There is a very difficult and dangerous game being played
between the ECB and eurozone governments. Effectively, the pact
is a dead duck, we have not got anything to put in its place,
but it looks to me as though the ECB is trying to keep some semblance
of it alive, or at least have in the background a nasty threat
to hold over governments, in case they relax the fiscal stance
rather too much, and I think that is all really rather dangerous.
In reply to the second question, which I think was about, was
it not, the case that the revival of the European economy is vital
for the growth of UK exports I think that is right. As we know,
the figures are subject to some dispute and discussion, but broadly
speaking roughly half of our exports go to the European Union,
more than that as far as goods are concerned and less than that
as far as services are concerned. The evidence seems to be that
the overall level of demand is way, way more important than the
exchange rate or narrow competitiveness factors that might change
on a year-by-year basis. Unless we get a revival of European demand,
I think, even if the pound falls overall, it is difficult to see
UK exports doing extremely well.
Ms Rosewell: I would like to support,
in particular, what Roger said about this policy stand-off. That
would be why I would say, although the indicators look positive,
nonetheless, I would be very nervous, because it is entirely unclear
to me how this is going to be resolved, both in terms of the stability
and growth pact and indeed in terms of ECB policy. Therefore,
it is extremely hard to see where interest rates will be going,
or indeed the fiscal positions will be going, and that must be
creating uncertainty right across the piece for investors and
businesses in the eurozone. All of that is where it is dodgy.
Q19 Mr Beard: The October minutes
of the MPC noted that, even after a 25 base points rise in interest
rates, the rate still would be below the plausible estimate of
the neutral rate. Where do you see that plausible estimate of
the neutral rate being? Given that the Bank's central projection
for GDP foresees growth just a little faster than the trend level,
when do you see them having to correct the rate back to the neutral
setting?
Ms Rosewell: I do not believe
in neutral interest rate concepts, so I am not really qualified
to answer this. In other words, you are always moving in some
direction or another.
Professor Pissarides: There is
a lot of uncertainty. If you were to put your finger on an interest
rate you would add the rate of growth of GDP to the rate of inflation,
but I agree there is a lot of uncertainty. Say, we have an inflation
target of 2%, and there is another 2 to 2.5% real growth in the
economy then I would think that 4% to 4.5 is the more true rate
than the one we have now, with a lot of uncertainty attached to
it.
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