3. On 16 September 1992, the United Kingdom exited
the European Exchange Rate Mechanism. In October 1992, the United
Kingdom adopted a new monetary policy framework with an inflation
targeting regime. In this system, the Governor of the Bank of
England and the Chancellor of the Exchequer met monthly to discuss
monetary policy, but actual responsibility for setting short-term
interest rates lay with the Chancellor of the Exchequer alone.
The inflation target was a range between 1% and 4% on the RPIX
inflation measure, with an aim by the end of that Parliament of
having inflation in the lower end of that range.
In 1995, the inflation target was revised so that the inflation
rate was to be 2.5% or lower on the RPIX measure of inflation.
4. In May 1997, this framework changed. Under the
new system, the inflation target was to be set by the Government,
and the MPC of the Bank of England was created with operational
independence to set the level of short-term interest rates to
achieve that target. At the time of its institution, the inflation
target was set at 2.5% on the RPIX measure of inflation. The MPC
has nine members, and operates on a one person, one vote system,
designed to promote both transparency and independence. This contrasted
with the circumstances we found on our visit to Canada and the
USA. In Canada, decision making is based on a consensus format.
In the United Kingdom, the Governor of the Bank of England has
been outvoted twice in close decisions.
5. When we asked Lord George, who was Governor of
the Bank of England in 1997, how important the changes at that
time were, he told us that they were a culmination of a set of
changes, both in policy and thinking. An inflation target had
been adopted five years earlier. The role of fiscal policy moved
to being seen as useful in the medium and longer term. Monetary
policy's role was not seen as maximising a trade off between inflation
and growth but keeping aggregate demand growing in line with the
growth in the supply capacity of the economy. As Lord George put
it, there was a broad political consensus that it had become "a
technical job to manage monetary policy to keep demand growing
in line with supply".
The need for further legislative
6. The Bank of England Act 1998 is the legislative
centrepiece of the new monetary policy framework. During our inquiry,
we have discussed with witnesses possible reforms which would
require amendment of the Bank of England Act 1998. Examples of
issues considered below which could be included in this category
include changes to the frequency of meetings held by the MPC,
the frequency of changes to the monetary policy remit, and the
length of the terms of office for 'external' members of the MPC.
7. While much evidence concerned specific proposals
for legislative change, several witnesses argued against legislative
change at a general level. Ms Kate Barker, an 'external' member
of the MPC, told us that while "tweaks" could be made,
"Frankly, I am not sure that there is anything that I would
change about the framework of the Act".
The Governor of the Bank of England agreed with this view, stating
"I do not see a strong case for making changes in the legislative
framework, but that is not to say that we cannot learn from other
central banks about how they carry out their research or how to
think about certain questions that come up".
The then Chancellor of the Exchequer told us that the "test
of this framework is its success", but that "we shall
look at any reports that your Committee brings to us about possible
changes that you wish to recommend".
The monetary policy framework of the last decade has been broadly
successful. At least some of that success can be attributed to
the Bank of England Act 1998. Continuity is an important part
of this framework, allowing market participants to have faith
in the stability of the system. In view of the broad level of
success of the framework and of the legislation, we do not see
any reason why legislation to amend the Bank of England Act 1998
ought to be accorded high priority within the Government's legislative
programme. Thus, while some of our recommendations might require
legislative change, we accept that the opportunity for such change
may not occur in the near future.
9 'The Inflation-targeting framework from an historical
perspective' by Luca Benati, Bank of England Quarterly Bulletin,
Bank of England Website, http://www.bankofengland.co.uk/monetarypolicy/history.htm Back
Bank of England Website, http://www.bankofengland.co.uk/monetarypolicy/mpcvoting.xls Back
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