Select Committee on Treasury Minutes of Evidence

Examination of Witnesses (Questions 100-119)


20 MARCH 2007

  Q100  Chairman: Not to mention long-term capital management and the Russian defaults?

  Lord George: Yes. I put those in the category of the Asian crisis.

  Q101  Chairman: The appointments process has been described by Stephen Nickell as opaque. [1]Many others have made the same point. Do you think it is necessary to have such secrecy surrounding the appointment process? From your point of view as governor at that time, how did the selection process work? Did you feel fully informed? Would you have liked more influence in the selection of members?

  Lord George: I was certainly never shut out of it. The Bank suggested to the Treasury a list of potential outside appointees. We would discuss it with Treasury officials. An appointment with which I was not comfortable was never made. I was given the opportunity to say that I could not stand a particular bloke or that I thought he was hopeless. I never felt particularly uncomfortable with the appointments process. There were occasions when appointments were made pretty much at the last minute and I believe that as much as anything else that was because the Chancellor had an awful lot of other things to do. It might not have been perfect, but I did not think there was anything fundamentally wrong with it.

  Q102  Chairman: In terms of the Treasury Committee itself, what role do you think it could have? Could it have an enhanced role? Could it be given the power of veto over appointments? Could there be more prior public discussion as to who should sit on the MPC?

  Lord George: What you are talking about is the appointment of technicians. One needs people who know about the technical competence of the potential pool of people coming onto the MPC. You will judge whether you believe that the Treasury Committee has that kind of competence. In principle I am all in favour of public debate, but we are talking about something that is essentially technical rather than just democratic in a broader way. I do not know that public debate will be particularly helpful. It could discourage some people from participating because there is newspaper discussion saying this chap is better than that chap or this chap is no good. I do not know that that is terribly helpful in the kind of process with which we are concerned.

  Q103  Chairman: The changes would be significant and the implications quite profound as a result?

  Lord George: Absolutely. The last thing we want is to introduce a political element into that decision.

  Q104  Chairman: You have been coming to the Treasury Select Committee for a number of years and putting forward the views of the MPC. How important are meetings such as this in terms of communicating with Parliament and the public in particular?

  Lord George: Without flattering, I think they are terribly important. The opportunity for us to explain to the Treasury Committee what we were doing, and for individual MPC members to explain their thinking, was a very positive dimension. To have the technical job that the MPC is doing understood is terrific. When I was at the Bank—I imagine it continues today—we had regular meetings with groups of parliamentarians. That occurred probably four or five times a year. Those meetings at the Bank were precisely in order to explain to Members of Parliament how the Bank worked and open ourselves to questions from parliamentarians in order to try to understand it. We do it publicly through the inflation reports, publication of the minutes and so on, but that is a terrifically important process which creates understanding, and I believe that on the whole it has proceeded fairly well; and it has helped to strengthen the consensus that I described at the beginning. If people feel they can understand it and it seems to be working reasonably well that is helpful.

  Q105  Mr Todd: Do you think that inflation expectations have been anchored by the actions of the MPC either in the more technical financial community or the public at large?

  Lord George: I think that "anchored" is a strong word, but there is an understanding—this has been happening to varying degrees from different starting points globally, not just in the UK—that people who manage economic policy now realise that the boom-and-bust approach is a dead end and very damaging. I believe that that has been accepted by the public at large. It implies that they do not expect to see inflation reach 27% in a single year in the United Kingdom. I cannot believe that that was ever true but it was. In that sense inflationary expectations are much lower because people really understand that what government and the bank are trying to do in managing the economy is to produce greater stability. In that sense I agree. As to whether it is precisely 3%, 2½% or 2%, I do not believe that one will ever succeed in anchoring that, but it is certainly down at that level rather than in double digits.

  Q106  Mr Todd: Would it surprise you that Citigroup carried out a public opinion survey which showed widespread ignorance of the precise target, or even who set it, whether it had changed recently and so on? That reinforces your point that in broad terms people understand it, but in precise terms they do not. Do you believe that there is more to be done to educate the public on the various components of inflation, for example linking it to concepts of asset price inflation with which people are often quite familiar in terms of the values of their properties? Is there more to be done to explain what these things are and how they relate to, say, one's next wage demand?

  Lord George: As I hope I made clear, I believe that public explanation is absolutely critical and it is an ongoing process. I do not think we will ever get to a situation where everyone in the country knows about the MPC and the details of the target and all that. It is the broader understanding that we have to keep reinforcing.

  Q107  Mr Todd: You are aware of the debate about whether the precise inflation measures being used are the right ones and whether they include the correct components and so on. Therefore, there is a public dimension to that process.

  Lord George: I believe that whilst they are important questions they are second-order compared with the overall understanding of the way macro-economic management is proceeding in a broad sense. The fact is that any technical subject is not widely understood. There is great debate about climate change. If one carried out a survey to find out how many members of the public knew whether it was due to solar energy or was manmade one would find a complete void. I am very keen that there should be greater understanding of that, but the mass of the population will never understand the technical details. I believe that the same is true of macro-economic policy.

  Q108  Mr Todd: Should one be satisfied that if asked people would think that inflation was around 2½% or 3% and would not rise dramatically above that level?

  Lord George: Yes—and that interest rates would be 5% or, at the higher points, at 6% or even 7%, or that at the low point it would be 3% or 4%. I do not believe that the mass of the population will ever understand those things, but I believe that the broad direction, which is the important matter, is fairly well understood.

  Q109  Mr Todd: The banks sponsored a competition among schools which focused on the inflation target and the various levels that could be applied to achieve it. Do you think that more could be done there?

  Lord George: I believe that that was a fantastic idea on the part of Mervyn King. That focuses on economics teachers and students of economics at the school level. Part of what they are doing is to study the technicalities of this kind of thing.

  Q110  Mr Todd: Perhaps there should be more emphasis on lower level awareness?

  Lord George: It is an ongoing task and we must keep on doing it. I do not believe that there are particular initiatives, but perhaps I do not have the imagination of others.

  Q111  Mr Todd: It has been suggested from time to time that the MPC should have responsibility for bursting asset bubbles. Do you think it desirable that its brief should enable it to deal with house price inflation and specifically adopt measures to assist with that? I merely pose that question because it is put to us from time to time.

  Lord George: For years I used to quote the Chinese proverb "the man who tries to juggle with too many balls ends up in heap on the floor". I believe that that is extremely relevant to that question. The inflation target is really a form, but what it is talking about is aggregate demand in relation to the potential underlying supply capacity of the economy. The inflation target is really the barometer of success or failure in achieving that. Asset prices can be driven by all manner of outside considerations. It is tremendously important that the Monetary Policy Committee monitors, follows and studies what is happening to different asset prices, financial assets, housing and so on, as it does. Those subjects are studied extremely carefully within the bank and are discussed by the MPC. But if one decided to set a target for house prices and equity prices one would end up in "heap on floor". One just cannot focus on more than one objective. To focus on inflation is not a narrow objective; that is the form of it, but it has broader significance than that.

  Q112  Ms Keeble: Do you believe that the CPI is still a credible target for inflation in the UK or should it be modified?

  Lord George: Do not misunderstand me when I say I believe that to be a second-order question. I was not particularly keen to modify it from the RPIX which we had for some considerable time. There were pros and cons in that respect given that it was going to be 2% rather than 2½% which helped possibly to reduce inflationary expectations. I would be fairly reluctant to jump about with it because inevitably people will say that the goal posts are being changed and it is being done for this or that particular reason. I honestly do not believe that it makes a fundamental difference. A 2% target for CPI is a good benchmark for the kind of broad balance and stability that is the big picture here.

  Q113  Ms Keeble: But do you not think there is an issue about the credibility of the MPC? You say that the general public will never understand it, but I think they do. You said that you were an inflation nut. Inflation is a matter of public debate now whereas it was not for a long time. I think people understand the difference between inflation as they experience it and inflation as the MPC defines it because of the impact of house prices. Do you believe it would be helpful if there was a slightly modified target, or do you think it does not matter if the MPC has a target that is not really credible to the general public?

  Lord George: I would question the statement that it is not credible to the general public. I believe that the general public knows that the objective is to maintain stability over time and that will be reflected in relatively low inflation on whatever measure over time. As to the precise target that is set I do not believe that you will ever get people at large to agree that this is the right thing as distinct from that. I was amazed the other day to see that the Office for National Statistics was enabling individuals to calculate their own inflation index. The implication is that somehow one can target individual inflation concerns with different sectors or individuals members of the public, which is barmy. It is a broader concept than that and it must be one that is across the board and reflects the balance between demand and supply.

  Q114  Ms Keeble: Do you not think that in a sense the MPC has been a victim of its own success? People have been used to low inflation—at about the rate of 2%—for a long time but now it is increasing. If you look at the discussion in the area of public sector pay bargaining, the main issue of debate is the fact that public experience of inflation is well above official versions. Do you believe that that matters, or should the MPC perhaps recognise where the public is?

  Lord George: What you are saying is that they should target house prices, to which I say: absolutely not. They look at what is happening to house prices and take account of the impact of that on wage bargaining and everything else. The increase in household debt was certainly a subject that we focused on in my day job, and that will be and should be continuously focused upon. But if one suddenly says that one must look at this or that there is no end to where it can lead. I am very happy with where we are.

  Q115  Ms Keeble: How do you explain to the public whose experience is that prices are going up considerably—all of us as MPs hear that—that inflation is at whatever level the MPC thinks it is, which is about 2%?

  Lord George: It is not what the MPC thinks it is. That measure of inflation is calculated by the Office for National Statistics and that will anchor inflation. It may not do so to the same level but it will fluctuate around that and other measures of inflation, but it will anchor the general level of price increases. One can have endless debate about precisely what one should and should not include. I just think that the overall objective will be undermined if too much attention is paid to particular measures which reflect the expressed opinions of particular groups of people in society.

  Q116  Mr Newmark: As a supplementary, you are setting the terms of reference. By definition you are saying that inflation is x because you have set those terms of reference by which to measure inflation, but I echo a lot of what Ms Keeble says. Either at the doorstep or in my surgery people say to me that they read in the papers what inflation is but their experience tells them otherwise. It is a big problem particularly for pensioners who say that for them inflation is running at 7%, 8% and 9%, not 2%. That is problematic. We need to do some thinking as to what the terms of reference necessarily are.

  Lord George: I think you should look at what would be the implications for the economy as a whole if you targeted pensioner inflation

  Mr Newmark: I understand the point you make about targeting individuals, but if you ask the 646 MPs they will say that when they get onto the doorstep the feedback is that these may well be the facts that people read in the papers, namely that inflation is 2%, but it bears no resemblance to real life experiences. It may be—I am not saying that we should—we need to think about what those terms of reference are for the inputs into whatever inflation index we are using, whether it is CPI, RPI or whatever.

  Q117  Ms Keeble: What makes it worse is that the one tool that the MPC has is interest rates and that filters through to our constituents in the form of higher mortgages. That makes them complain even more; it becomes cyclical.

  Lord George: Yes, if house prices are going up. But one has to step back and recognise—I referred to it earlier—that when we were in an environment of global economic weakness at the beginning of the decade it meant that external demand was declining. Related to that, business investment was declining. One had only two alternatives in sustaining demand and keeping the economy moving forward: one was public spending and the other was consumption. It is true that taxation and public spending can influence the demand climate and consumer spending, but confronted with what we saw we knew that we had to stimulate consumer spending. We knew that we had pushed it up to levels that could not possibly be sustained in the medium and longer term, but for the time being if we had not done that the UK economy would have gone into recession, just like the economies of the United States, Germany and other major industrial countries. That pushed up house prices and increased household debt. That problem has been a legacy to my successors; they have to sort it out, but we really did not have much of a choice about what we did unless we accepted that we would yank it back or give up stability altogether. That is the point I am trying to make in answer to Mr Newmark. There are some people—maybe lots—who say that house prices is the biggest problem, that the mortgage rate is going up, housing is not affordable and so on.

  Q118  Mr Newmark: There are a whole host of other issues including council tax.

  Lord George: There are always things that one can bring into this kind of pot and within that there would be social judgments which are not for the MPC; they are for government. But my concern is that if it is said inflation or RPIX is so much that is one measure. If one looks at pensions a lot of pensioners will say that inflation is at 8% or 9%. If one really wants to target that measure of inflation, or include it within the inflation target, one will be giving up low inflation and accommodating those people. The only way in which we could bring down inflation would be to clamp down on the economy which would mean rising unemployment and falling output. Of course I understand when employees in the health service and schools say that it is not good for them, but one must look at it over time. If one focuses on that too much at the moment one will either inspire action that causes the economy as a whole to weaken or undermine the commitment to stability in the broad sense which has been so successful for us over the past 15 years.

  Q119  Mr Newmark: For the past four or five months in a row effectively earnings, excluding bonuses, have not kept pace with inflation. Do you see that as a problematic trend? Is there an issue about which we should be concerned?

  Lord George: I believe it is something that we should all applaud because if it had kept pace with inflation then underlying inflation would have been higher looking forward.

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