Examination of Witnesses (Questions 98-99)
RT HON
LORD GEORGE
20 MARCH 2007
Q98 Chairman: Lord George, welcome to
our inquiry into the Monetary Policy Committee of the Bank of
England 10 years on. We are privileged that you have come along
this morning since you were very much part of that. We would like
to look at the next 10 years and take the lessons from the previous
10 years. I start with 1997. How much of a watershed was the establishment
of the MPC?
Lord George: It is a great pleasure
to be here. I always enjoyed coming before the Treasury Committee.
How much of a watershed was it? I saw it very much as the culmination,
not necessarily the end point, of changes that had been happening
in the approach to the management of the UK economy over very
many years. On the supply side we had a shift from a great deal
of central control where people told the public at large what
it could and could not do. My early years at the bank were involved
with exchange and credit controls, rationing of access to capital
markets and that kind of thing, but in the wider economy one had
prices and incomes policies, public ownership of large parts of
productive industry, powerful trade unions that knew they could
not lose their jobs because the owner could not go bust, incredible
rates of income tax which reached 83% at one time on earned income—it
was even more on unearned income—and gradually over time
on the supply side there was a movement towards a much more market-based
economy. That is important because it is the supply side which
determines the rate of growth, level of employment and all the
good things in life that we can hope to sustain. It had very little
to do with the Bank of England which was very much involved in
the demand management side of the economy. As to demand management,
equally we saw fundamental changes. We had lived with boom and
bust but policy aggravated rather than mitigated that cycle. Fiscal
and monetary policy operated together without any real distinction.
When the economy was weakening the levers were pushed forward
until inflation took off and the balance of payments became a
problem. Then both levers were pulled back in conjunction. One
had a boom and bust cycle. It was worse than that because it was
explosive. Every peak of inflation was higher than the previous
one and at each trough of unemployment was lower than the previous
one. We were really looking over a precipice. On the demand side
we learned from the experience that we could not go on down that
road. Government identified that fiscal policy was quite a cumbersome
instrument to control demand certainly in the short term, and
that opened the way to a specific role for monetary policy. We
moved gradually not just to recognition of the role of the different
elements of demand management but that fiscal policy needed to
focus on the medium to longer term and the level of debt in relation
to income—it was not a short-term instrument—and that
in monetary policy the aim could not be to trade off growth versus
inflation in the short run. The mantra of central banks everywhere
these days is that stability is a necessary condition of sustainable
growth. The target was to keep aggregate demand growing approximately
in line with the underlying supply capacity of the economy to
meet that demand. I am sorry that you have started me off. As
an old man who has retired I reflect on this a great deal. What
was terribly important was that they all came together across
a broad part of the political spectrum. There was common political
and, I think, public support for these directions which happened
gradually over time. I believe that the establishment of the MPC
and the devolution of operational control over monetary policy
to that committee must be seen in that broader context. If all
those other things had not happened it could have been a disaster.
One would have had the central bank in public conflict with government
every five minutes, but it took place in the overall context where
it became a technical job to manage monetary policy to keep demand
growing in line with supply. That was epitomised in the symmetrical
inflation target which had been adopted years before. That target
was adopted in 1992, five years before the MPC came into effect
in 1997.
Q99 Chairman: I must ask this question
for the public record. A number of experts have written in to
say that the success of the MPC over the past 10 years has been
due more to luck than judgment.
Lord George: I have heard that.
Frankly, I do not care too much whether it was luck or judgment.
The great thing has been the result. Surprisingly, in this Committee
I was often called an inflation nut as if inflation was the only
thing about which I cared. What I found really satisfying and
encouraging was the increase in employment to an all-time high,
and it is still there. There has been a steady decline in unemployment
from double digits and very low rates of unemployment compared
with most of the rest of the industrial world and certainly Europe.
I do not mind whether people believe that is luck or judgment;
it is the outcome that is important. I believe that we had tremendously
good luck in that all these things came together at a political
level which meant that there was a broadly accepted clear understanding
of what the bank and the Government were trying to do. That was
certainly fortuitous. I really do not believe it could have been
done by just focusing on one little bit of the big picture. On
the other side, at the beginning of the MPC we had the Asian crisis
which spread around the world and recession in the industrial
world. We narrowly avoided it, but most of the rest of the industrial
world went into recession at the beginning of the current decade.
It was not pure luck. There were quite difficult circumstances
to deal with, as there always are. Indeed, we had to take action
that on the whole we would have preferred not to, for example
stimulating consumer demand because all the other elements of
demand had fallen away. We were very conscious of the fact that
that could give rise to problems in future. We tried very hard
not to do more than we felt we needed to do in order to keep within
the inflation target limits, but we knew that later on it would
cause problems, which are still with us.
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