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Treasury Committee - Minutes of EvidenceHC 944

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Oral Evidence

Taken before the Treasury Committee

on Thursday 7 February 2013

Members present:

Andrew Tyrie (Chair)

Stewart Hosie

Andrea Leadsom

Mr Andrew Love

Mr Pat McFadden

John Mann

Mr George Mudie

Mr Brooks Newmark

Jesse Norman

Teresa Pearce

Mr David Ruffley

John Thurso


Examination of Witness

Witness: Dr Mark Carney, Governor of the Bank of Canada, gave evidence.

Q1 Chair: Morning, Dr Carney. Thank you very much for coming in to give evidence this morning, for what I think might turn out to be an important hearing. We are also very grateful to you for the very detailed response you gave to our full questionnaire, which we are publishing at the same time as this hearing. What we will do is divide this session into two areas: the first monetary and the second financial policy. We will take a short break between the two. Before we get on to that, I think there are a number of questions that it might be worth asking about the process of your appointment. Can I begin by asking you why you changed your mind about this job? Originally, you said no, I think, in August 2012. Then you completely changed your mind. Why; what changed your mind?

Dr Carney: Thank you very much, Chairman. Thank you to the Members for having me here today. May I also thank you for the quite wide-ranging and thought-provoking set of questions that you did send. I think it is a good way to start off this crucial dialogue.

In terms of the question, in terms of my decision process, there was a series of conversations over the course of last year that I had with the Permanent Secretary and with the Chancellor related to this position. My view in the summer of last year and right up and including the 8 October deadline for an application was to not proceed with an application for a few reasons. One was my current responsibilities at the time as Governor of the Bank of Canada. The second was the personal aspects of the job or the personal aspects that would be associated with the move. I have a young family and the transition of countries and schools here and then back was in the end decisive. It was a finely balanced decision, as I think I outlined in my written response, given the immense challenges that are associated with this opportunity.

Q2 Chair: These are explaining why you did not apply. My question really is: why did you decide to reapply?

Dr Carney: What changed? What changed was that, subsequent to that decision, the Chancellor suggested to me that the position could be for a period of five years. That was the first point. Secondly, I was informed that Charlie Bean, Deputy Governor for Monetary Policy, had agreed that he would extend his term for an additional year from the time of the selection of the new Governor.

The first aspect I can appreciate, given that it is a personal decision, may not seem so decisive, but for me, given the ages of my children, it makes a material difference to come here and then return to Canada. I will be more specific. My eldest daughter will just finish high school over the course of five years. The second-eldest daughter will have two years in which to reintegrate into a French school system in the Canadian school system, which is what she would do.

Chair: It was your daughters who were decisive in this decision?

Dr Carney: Yes, I did not take good counsel.

Q3 Chair: It is a novelty at least. When did the Chancellor have this conversation with you offering five years rather than eight?

Dr Carney: I can remember distinctly. It was at the Mexico G20, which was, I believe, the night before the American elections; so, 4 or 5 November.

Q4 Chair: Did it occur to you that the application deadline had closed about a month earlier?

Dr Carney: I was fully aware of that.

Q5 Chair: How did you respond? Did you not say, "Well, has the application deadline not closed?" Isn’t that the first thing one might ask somebody approaching you to apply for a job?

Dr Carney: Yes, I needed to speak to the Permanent Secretary based on the conversation that I had with the Chancellor of this possibility, since the Permanent Secretary was in charge of the Committee for selecting the next Governor. He had devised a process for sitting Governors, which allowed a sitting Governor to apply and be interviewed in short order.

Q6 Chair: When did you first hear about that?

Dr Carney: I heard about that in October, prior to the conversation with the Chancellor, prior to the conversation with the Chancellor.

Chair: How long prior roughly?

Dr Carney: Roughly three weeks or so.

Chair: Around the time of the closure of the deadline?

Dr Carney: After the closure of the deadline.

Q7 Chair: That was in a telephone conversation?

Dr Carney: It was in a telephone conversation, yes.

Q8 Chair: Then you came to interview. That interview, according to Bloomberg, took place on 17 November.

Dr Carney: It was thereabouts. It was a Sunday; so if that is the Sunday, yes.

Q9 Chair: Did it occur to you that some of the other candidates, one of whom is still in the Bank, might be a bit put out by the fact that a special arrangement had been put in place for you?

Dr Carney: What occurred to me is that anyone who had made the effort and had the desire to serve in this important role would be disappointed to not succeed, but what appeared clear to me then, as it does now, is that the process that was followed, in other words the specific interview-and obviously, I only went to my interview-my understanding of the questions that I needed to answer, both by the committee and then by the Chancellor, were exactly the same as were put to the other finalist candidates.

Q10 Teresa Pearce: No doubt you are aware that mortgages are quite hard to come by in the UK for many people, including my constituents. Is that why you need the extra quarter of a million a year as housing allowance?

Dr Carney: The offer of the housing allowance, which I accepted, is consistent with many arrangements for international executives who move for a period to this country or to other countries, in order to equalise in broad terms their living standard from where they are coming to where they arrive. Unfortunately, in this regard, I am moving from one of the least expensive capital cities in the world, Ottawa, to one of the more expensive, shall we say, capital cities in the world, London.

Q11 Teresa Pearce: Would you have done the job for less?

Dr Carney: I was offered these terms, and I accepted them.

Q12 Teresa Pearce: Given that Bank of England staff had had a pay freeze for the last two years, do you see there might be any resentment among staff at the level of your package, given their pay freeze?

Dr Carney: I am not aware of any.

Teresa Pearce: Do you not anticipate that in any way?

Dr Carney: I do not anticipate that. If I may say, in terms of the pay package, the pay package is properly viewed as pay and pension, and pay and pension relative to pay and pension that is currently in place for current Governors and deputy Governors. Since there is no pension associated with my package, I am advised by Court that the package is equivalent to the package of the current Governor. The difference is the housing allowance that you pointed out at the start.

Q13 Teresa Pearce: But given the level of pay package that you are getting compared to the previous Governor and given the pay freeze for staff, do you have any concerns about recruiting and retaining quality staff going forward in the Bank?

Dr Carney: Recruiting and retaining quality staff is always going to be a priority for knowledge-based institutions such as the Bank of England. In my experience, what one starts with is an enthusiasm for public policy and a demonstrated interest and skill in public policy to recruit people into central banks. There is a differential between my pay as Governor of the Bank of Canada and the staff in the Bank of Canada, and we have been very successful in recruiting from a broad range of outside areas, including quite broadly in the private sector.

Q14 Chair: Just on that last point, your current pay, total remuneration, in sterling terms is around a third of £1 million. Is that not right?

Dr Carney: Yes.

Chair: Your total remuneration is going to be in excess of £800,000 in your new job, correct?

Dr Carney: Yes.

Chair: That is a rather large rise, bearing in mind there is a pay freeze on at the Bank. I think that is the only point that seems relevant here.

Dr Carney: I will just reiterate that my pension is zero, but my pay and pension is equivalent to the pay and pension of the current Governor. The court has offered that. Secondly, the housing allowance relates to the fact that I am moving, as I said, from one of the cheapest capitals to one of the most expensive capitals. It is a relatively common arrangement for senior executives. It was offered to me. I accepted. I would add further that the combination of the two is broadly equivalent to the pay and pension of the outgoing CEO of the FSA-

Q15 Andrea Leadsom: Can I just put my hand up and say I think you will be earning it, so I suspect you will definitely pay the price. You have said that you are okay to do the job for five years and that there are certain things you want to achieve in that period of time. If you have not achieved those goals, would you consider staying on, or is 2018 the absolute deadline?

Dr Carney: I think there is value in clarity about the term, particularly given some of the quite considerable internal transformations that are necessary within the institution, giving them full life. I am sure we will have an opportunity to discuss some of the governance reforms that have been put in place: putting in place an effective talent management strategy succession plan, grooming potential successors, and having an arc of reform and restructuring of the institution that is consistent with a finite time line. I hesitate to take that finite time line away at the outset, but I can assure you my full intention is to accomplish what I am being asked to set out to do, and I will do everything I can to do that.

Q16 Andrea Leadsom: Have you been surprised by the amount of media attention you have had on your appointment and, in particular, about the accusations that you have political ambitions? Is there anything you want to say about friends among the political class that you might like to mention now rather than having dragged out under the spotlight later on?

Dr Carney: Have I been surprised? I have been surprised that it would be viewed as politically astute. I am in front of a range of people who are politically astute, demonstrably successful. I am surprised that it would be suggested that taking one of the most challenging jobs in central banking in another country would be viewed as politically advantageous in my home country. I think, if I had political ambitions, I would have pursued them in Canada, so I think this is revealed preference that I do not have political ambitions.

Q17 Stewart Hosie: Dr Carney, you were reported as having expressed concern about income inequality in Canada. First of all, can I ask if that is the case? More importantly, what did you see as the economic problems with wide income inequality in any country?

Dr Carney: Thank you for the point. The report, I think, relates to comments I made regarding the Occupy movement in the US and, by extension, into Canada. I will not give you the full context, but I made a distinction between the level of inequality and the change in the level of inequality in Canada versus what has happened over the course of the last decade in the United States.

Further, to ground this in monetary policy and my core responsibilities as Governor of the Bank of Canada, I made the point that one of the challenges in that environment, an environment that starts with increased inequality and marked increased inequality that is the case in the United States, is the danger of persistent unemployment and so-called hysteretic effects, if I can use the jargon, the gradual loss of skills because of prolonged unemployment, which has more severe consequences, obviously for the individual, but also for the productive capacity of the economy. That is one of the challenges that has been faced by the Federal Reserve and one of the reasons for which they have been as appropriately aggressive in their conduct of monetary policy.

Q18 Stewart Hosie: That is quite a helpful answer: prolonged unemployment, loss of skills, issues related to productivity. Does that drive in any way policy in your mind in terms of Central Bank policy?

Dr Carney: It is a consideration. It has to be a consideration in circumstances where there is persistent slack in the labour market. Judgment has to be made by the Central Bank, the extent to which that is caused by demand deficiency, and obviously the extent to which various monetary policy actions and which ones can address that demand deficiency. There is an issue in terms of the speed with which the labour market returns to a more natural equilibrium because, the slower it does, the higher the natural rate of unemployment can become, to use the terms again, because of the atrophy of skills and the loss of workplace attachment.

Q19 Stewart Hosie: We are going to be talking a little bit about the monetary and policy side later. I just want to find a little question. You mentioned the Occupy movement and the sympathy that you appear to have expressed for it in the context that you have given. How much of that do you think reflected a wider public anger at the behaviour of banks more generally?

Dr Carney: I think, clearly, that was a catalyst. Obviously, the movement itself, the physical location of its start, was on Wall Street. Particularly, it was not just the fact that the financial crisis triggered a very sharp recession, here as well as in the United States, but that the senior-most officials in those financial institutions appeared to escape unscathed, not pay the price. In fact, in many of the institutions that failed, some of the CEOs received large payouts prior to their demise.

Q20 Chair: You have produced some fascinating written evidence. One thing that comes through strongly is a distinctive or an attempt to describe a distinctive management style. You talk on a number of occasions about consensus. Are you using that word to contrast the style you intend to bring with that of the incumbent?

Dr Carney: I am not really in a position, not having worked in the institution, to comment on the management style.

Q21 Chair: You have picked up a few things, I am sure, from press reports and senior colleagues with whom you will be working.

Dr Carney: I may say that, in terms of the management style of Governor King, my direct experience of that has been in committees such as Governors and Heads of Supervision, which is the committee that oversees Basel Committee, which he chairs, the Global Economy Meeting, which he also chairs. I have found his style in those committees of experts, so to speak, to be consensual, if I may use that term, to seek consensus, to pick up argument, and to broaden it out. I would say, in terms of my personal experience, the Bank of Canada operates absolutely on the basis of consensus.

In some respects, the Financial Stability Board might be a better analogue to the committees of the Bank of England. I will explain that. In the Bank of Canada, the law states that the responsibility for monetary policy is grounded in the Governor, so the power ultimately is grounded in the Governor. Now, we built up the tradition over Governors of consensus and I have done, I think, everything I can to ensure that that has been enforced while I have been Governor. Within the Financial Stability Board, which is a collection of Governors, treasuries, standard-setters, supervisors of sovereign states and jurisdictions-the European Union is represented as well-you have to have true consensus. Derogation from the consensus on as important a reform as resolution strategies or a variety of things related to OTC derivatives stops that reform in its tracks. I follow the focus of this Committee. I know the focus that you put on reform and this is the moment to push things forward, but in order to do so it requires a chair that works with the Members of the Committee to help to drive to consensus.

The last thing is that I fully recognise that with the voting structure of the FPC and the MPC, the individual accountability of the FPC and the MPC and the workings of the PRA board will not always be possible to have consensus. That is fine. I fully recognise. I also recognise that, as Governor, I will from time to time likely be in the minority. That is also fine. What I would view my job to be is to ensure that all views are heard, all arguments and all analyses are appropriately followed up, and then the decision is made by the individuals.

Q22 Chair: Quite understandably, you have avoided directly answering the question I asked you, which was to compare your style with the incumbent, but you are signalling something in your reply to the questionnaire, aren’t you? There are a dozen references to "consensus", and you do not just refer to it in an idle way. You talk about developing a team culture; you talk about developing consensus-based decision-making; you talk about forging consensus in a number of specific areas, whereby a clear indication there is a weak consensus or none at the moment in decision-making structure. So there is something going on here, isn’t there? This is a change of approach that we are meant to notice you are signalling.

Dr Carney: What I would signal or underscore is that it is an approach I think is essential for the institution to be successful. I will add one other point, which is that particularly if we look at the decisions of the FPC and compare them to the MPC when there are decisions necessary around a range of possible instruments and working to an objective that is not easily summarised as one indicator-in other words, MPC ultimately working towards price stability as measured by CPI; the FPC working towards financial stability that can only be represented by a wide range of indicators, a wide range of tools-there it is particularly important to send a clear message as much as possible, which requires true consensus decision-making.

Chair: We are going to come on to governance questions in the Bank, which are extremely lively as an issue of debate in Britain at the moment; but before I do that, David Ruffley.

Q23 Mr Ruffley: Dr Carney, welcome. I think it is worth pointing out that on your question of pay, you will be paid considerably less than recent England football managers, and I think you are likely to have more success than them.

We are going to get on to the policy issues in a minute, but you say in your written evidence to us that one of the key criteria to measure your success will be the effective communication of monetary policy and fiscal policy, and I quote, "That is well understood by the public". You also say, "Public understanding of macro-prudential policy is presently low" I am sure you are right in saying that, "and that the significance offer example, capital ratios and liquidity requirements are not widely understood by the public". What is a capital ratio?

Dr Carney: A capital ratio is a ratio of the equity of an institution relative to the assets, so the loss-absorbing equity relative to the assets of the institution.

Q24 Mr Ruffley: How would you describe "unwinding QE"?

Dr Carney: Unwinding QE is to return the balance sheet of the Bank of England to its historic level.

Q25 Mr Ruffley: What is a liquidity requirement?

Dr Carney: A liquidity requirement is the need for a bank to have funds to meet short-term obligations.

Mr Ruffley: I think that is all I have on that one.

Chair: I think you scored pretty well there overall.

Q26 Jesse Norman: Dr Carney, you will be inheriting a position in an institution that has gigantic power across the economy and growing power, given the new responsibilities in the financial sector. It is formally independent of Government; it is subject to low levels of accountability externally and has had a court that has not been very effective in ensuring high levels of accountability internally. Do you think it is appropriate for that job to be referred to as that of "Sun King"?

Dr Carney: Not as it is structured under the new Financial Services Act, no.

Jesse Norman: Why not?

Dr Carney: Because there are various mechanisms of accountability that are in place. First, the structure of the actual committees, the voting structure of the committees, both the MPC, the FPC, the structure of the PRA board; the clear remits that have been given to those committees by Parliament through the Act; the newly-formed Oversight Committee of the independent directors of the Bank, and extremely importantly, this Committee, which is the way through which not just the Governor but the deputies and the senior officials of the Bank and the external members of the policy committees are accountable through this Committee to Parliament and through Parliament to the British people.

Q27 Jesse Norman: Your conception of leadership clearly is one that requires the leader to be able to exercise, where necessary, a detailed grasp of aspects of the institution and aspects of policy. Given the spread of responsibilities and the number of committees that you are going to be on as Governor, how can you possibly exercise any detailed grasp across that entire spectrum of activity?

Dr Carney: In many respects, there are synergies and that is part of the spirit of this very important reform. At present, as Governor of the Bank of Canada, I have responsibility for monetary policy, very clearly defined responsibility there. We then have a contributory responsibility for financial stability, which means we oversee the payment system and we analyse potential risk to financial stability, but the levers on financial stability are controlled by others. We also, by dint of our role on the Financial Stability Board, participate in the development of a series of global financial reforms, many of which are applied domestically within Canada. But we do not exercise or see through those financial reforms, so we have an opinion, for example, in the Bank of Canada, about how bail-in debt plays into resolution strategies for institutions and then in too big to fail, but all those decisions are taken by our Treasury or taken by our deposit insurer or taken by other entities within Canada. So these are all issues on which I, as Governor, in Canada need to be expert enough to contribute to decisions, but I do not see those decisions all the way through. If one does not see decisions all the way through, if one is not ultimately responsible for their implementation, in my experience that limits one’s level of expertise.

Q28 Jesse Norman: You will not be responsible for some aspects of these policies or committees?

Dr Carney: I am sorry. The analogy I was drawing is that in Canada, I am not. In the Bank of England, the institution is, for all of the aspects that I just referenced, and in my opinion that reinforces the ability to be up to speed. Let me make another point, if I may.

Q29 Jesse Norman: That reinforces the requirement on you to be on top of the detail?

Dr Carney: It reinforces the requirement on me to be on top of the detail and the point I was trying to make-perhaps I was taking too long to make it-is it makes it easier for me to be on top of the detail as well, because the institution itself sees through to the detail of those aspects of policy.

Q30 Jesse Norman: That is how you read the Bank now? You think the Bank of England does that now?

Dr Carney: That is how the Bank is becoming, because of the reform to the Bank, the addition of the FPC and the addition of the PRA.

Q31 Jesse Norman: Have you thought broadly about how much time you are planning to allocate to each of these areas of your responsibility?

Dr Carney: I would say in this juncture in the British economy and financial system, there are quite strong overlaps between the various responsibilities. I will give an example: the work that the FPC has done in conjunction with effectively the PRA, I know the PRA is about to come, through the FSA on funding for lending and co-ordinated approach that has been put in place on funding for lending, that is macro-prudential policy, and it is also monetary policy at the same time. How one allocates one’s time between the two of those one can debate, but I think at this point and for a number of years-this is one of the things that makes the job so challenging, but also so interesting-there will be quite strong overlap between putting in place the judgment-based supervisory approach of the PRA, putting in place macro-prudential tools and the monetary policy response that is necessary and the collective of these policies in order to grow the economy in a sustainable way.

Q32 Jesse Norman: Banking supervision essentially will have to take second place to that, will it?

Dr Carney: No, I don’t think so. I am sorry if I left that impression. I would almost see that this is tiered. If you are pushing me-and it is fair-a third each between the three responsibilities, for a couple of reasons. Firstly, on banking and insurance supervision, importantly there is a new approach; very capable team, but there is a new approach that has been put in place. It needs to be put in place. As Members know, one of the core challenges in the financial system and therefore in the economy right now is that the core of the banking system is not as strong as it needs to be. It is a matter of some debate.

Jesse Norman: No kidding.

Dr Carney: Yes, a matter of some debate; and those judgments can only properly be informed by on the ground supervision. Ultimately, there are some macro-prudential judgments that need to be made around that, but it needs to draw on the supervisory expertise, and again, that I think is an advantage of the new structure, because the supervisory expertise is sitting right next to the macro-prudential.

Q33 Jesse Norman: A final question: so then, on the point of your command of the detail and of the fact that you uniquely will be sitting across all of these committees, in your view there will be very evident responsibility at the top for failures within that regime?

Dr Carney: It depends what you mean. First point, as I am sure you are aware, it is not an intention to run a zero-failure regime, meaning zero failure for institutions. In fact, the thrust of many of the reforms is to ensure that institutions can fail safely, that effectively the market can work, and ultimately that will provide more competition and ultimately provide a stronger system. As you know, it is not a zero failure, but certainly the responsibility of the Governor and of the relevant Deputy Governors is to successfully execute-

Q34 Jesse Norman: You will be running a zero-failure regime within the Bank?

Dr Carney: The bank will make mistakes, but all institutions make mistakes, all individuals make-

Q35 Jesse Norman: What is your tolerable level of failure within the Bank, Dr Carney?

Dr Carney: I am not grasping exactly how you define that level.

Jesse Norman: Low, medium-do you like low levels of failure or medium levels of failure?

Dr Carney: I prefer low levels to medium levels, yes.

Q36 Chair: That is what most people like. You just referred to insurance there. Of course, insurance has gone to the Bank of England. They don’t know much about it, they are busy gathering together the expertise in order to do the job. Do you know much about insurance regulation?

Dr Carney: I know a reasonable amount about insurance regulation. Particularly, we have a relatively large life insurance industry in Canada. I sit on what is an inter-agency macro-prudential committee, a statutory committee. In fact-it does not matter-I was there earlier this week.

Q37 Chair: You are already covering this area in Canada?

Dr Carney: But the Bank of Canada is not the primary entity responsible for insurance regulation, so I would not over-represent. That said, I have that experience through that committee. We have a large life sector in Canada.

Secondly, at the Financial Stability Board, if I may, we are in the process of identifying globally systemic insurance companies and the regulatory response to those institutions. That, if I may suggest, is highly relevant to at least the larger insurance industries. I certainly recognise that this is third-largest insurance industry in the world.

Q38 Chair: Insurance played a major role in this crisis. Your position is basically you know a bit about it, but you have to get up to speed, like the Bank of England has?

Dr Carney: Yes, I will be much more expert next time we talk. Non-traditional non-insurance activities of insurance conglomerates played a major role in the crisis, if I just can make that distinction.

Chair: Yes, that is an important distinction.

Q39 John Thurso: Can I come back to your leadership style and qualities? In your very helpful answers to the questions, you divide the challenges between half of them as institutional challenges and the first thing you say there is, "There needs to be a clear, shared vision for the Bank that needs to be established". A classic definition of a CEO and leadership is having a vision, communicating it and resourcing it. What is the current vision of the Bank of Canada?

Dr Carney: The current vision of the Bank of Canada is that we provide price stability and financial stability to enhance the economic and financial wellbeing of Canadians; so, it is rooted in our legislation.

Q40 John Thurso: Clearly your answer indicates that, because you say, "A clear shared vision for the Bank needs to be established". There is an assumption that there is not one in the Bank of England.

Dr Carney: Given that the institution has been given considerable extra responsibilities as of the start of April, that creates the opportunity-

John Thurso: It is a new shared vision?

Dr Carney: Yes. It creates a need either to reconfirm or adjust the vision for the institution. Sorry, I don’t want to eat up your time.

John Thurso: No, no.

Dr Carney: I think there are analogues to what the vision is in the Bank of Canada, and the two objectives of the Bank of England have been contributing to price and financial stability. I think it is important that it is recognised that those are cornerstones or building blocks of British prosperity: in other words, they do not guarantee prosperity, but without both, that will not come. But the important thing with a vision is that it is developed jointly with senior management, it is adjusted and there is buy-in, and then it is broadly recognised by all members of staff.

I will give one example that goes back to Mr Norman’s question, which is that failures, to use your term, whether it is operational failures, individual failures in terms of expenses or personal conduct, issues around counterfeiting of notes-there are a variety of issues-all those issues, all those failures, to use that term, detract from confidence in the institution, confidence in the system, detract from financial stability and could, in the extreme, detract from price stability. So it needs to be-and I believe there is, but it needs to be continually reinforced-reinforced throughout the institution that everybody in the institution is responsible for the success of the institution, because everything that happens in the institution is watched closely and ascribed to the broader whole of the British financial system.

Q41 John Thurso: All good points, but a vision is a very simple, clear statement of what the whole institution is about. How will you go about achieving that vision, and at what point will we, as a Committee, be able to say to you, "What is the vision of the Bank of England?" and you will give us an answer?

Dr Carney: That is the first six months’ work, without question, and I would hope before the end of that six months.

Q42 John Thurso: My second point, following on very much from Jesse Norman’s questions-and it has been said that from April, the Governor of the Bank of England will be the most powerful central banker on the planet-there are all of these committees that he will chair, as well as being the Chief Executive and a major player on the international stage. There is the possibility, looking at all of that, for the way in that it is run to go in one of two ways. It can either be the sort of emperor, or it can be the constitutional monarch. Do you have an idea of which you might favour?

Dr Carney: You are going to back me into "Sun King" with the second option. I would like to link the two questions, because it is absolutely essential in this role to have a grasp of the detail, to understand the core of the issues that each of the three policy committees are engaged with and also to make the connection between those policy committees in order to get the full benefit of the institution, so that is essential. But that said, no individual is going to have the expertise of the collective of those committees. That is why the externals are selected and that is why we develop internally at the institution. So it cannot be an emperor; that cannot be the approach. It is not possible, even if one wanted to, but it also would be fundamentally limiting for the institution and an unsuccessful strategy.

I am not sure that then goes to your other option, but my view would be more of a managing partner, if you will, within a corporation.

Q43 John Thurso: Let’s not worry about that, those are terms. The critical point is when it comes to corporate governance-and this Committee has been very critical of the past arrangements in the Bank of England-it is the manner in which you develop the style of leadership will dictate how best to achieve the corporate governance of the position, in that good corporate governance is both a support to the key positions, but also a check and balance. Coming in, looking at it at the moment as an outsider, is that corporate governance fit for purpose, to coin the happy phrase? Are there things that you would like to see put in place either to help support or to help as a check and balance of the way that you are wishing to create?

Dr Carney: On the outside looking in, I think the answer is yes, but it depends on a couple of-

John Thurso: Is that, "Yes, you would like to do things", or, "Yes, it is okay"?

Dr Carney: Yes, I think it is fit for purpose, but it needs to be given life, I think is the way. In other words, we need to ensure-and obviously this is entirely out of my control, except from the perspective of co-operation-for example, that the Oversight Committee of court is active and effective.

Q44 John Thurso: Do you favour the Oversight Committee doing the reviews that this Committee has suggested?

Dr Carney: I certainly favour the process of the Oversight Committee identifying a series of issues that it wants to review. I think as well I welcome the fact that it is recognised that management may also want to initiate reviews as well from time to time. If I may say as a general point, which I believe I made in my written submission, there has been a series of useful external reviews performed. The bank is in the process of determining its response to those reviews. One of the first things I will do when I arrive is to take stock of that response, see how it has been put in place and within six months determine whether more needs to be done.

So to go back to your question, with respect to how to make sure that the governance structure works, it is management of committee and management of the various policy committees to make sure that they work as they should; it is ensuring that this Oversight Committee, which again we at the institution, we within management, if you will, can only ensure in terms of being co-operative and responding effectively to the reviews that come from the Oversight Committee, making sure that is an effective process and that is an effective process early on, and then subsequently it is with the interaction with this Committee obviously, which is our principal public accountability.

John Thurso: I will leave it there, having signalled that probably in about six or eight months’ time those will be questions I will be asking you.

Dr Carney: Clearly.

Q45 Chair: It might be worth just picking up on a couple of the points you have made there. Do you think that the Bank should have a formal responsibility to respond to reasonable requests from this Committee for information or retrospective reviews to be conducted by the sub-committee?

Dr Carney: I am sorry, Chairman, should we respond to the requests of this Committee? Yes, sure.

Chair: Should you have a formal responsibility to respond to such a request, to a reasonable request?

Dr Carney: I would view that we have a responsibility to respond to reasonable requests of this Committee.

Q46 Chair: You will not have any objection to having this put in statute?

Dr Carney: I am sure there is something I am missing, but I don’t have any objection.

Chair: It sounds as if, even though it is missing, you are happy to say yes to that, are you?

Dr Carney: It sounds reasonable, yes.

Q47 Chair: Yes, exactly. It does to us. We have not succeeded with that one so far, but as you say yourself, we are all reasonable men around this table and that is what we been asking for some time.


The court: do you think that an 18th century name attached to this structure is sensible in the 21st century? Do you think it might be plausible to be able to think of something else?

Dr Carney: Yes. I would view the court as a board, if that is the question. I hesitate as a foreigner coming in and changing and suggesting any changes to some of the longer traditions of the institution, but this is distinct, those traditions; the name of the court or the board I would put in those longer traditions. Others should make those judgments rather than me.

Q48 Chair: The sub-committee that has been given the job of doing these reviews, and you referred favourably to them, doesn’t have any staff at all, so I understand. Do you think it should be given some staff seconded to it from within the Bank, as we propose in our report, for a period with the duty of assisting the board or sub-committee of the board in performing this oversight role?

Dr Carney: Yes. In terms of conducting the actual review, the members of-

Chair: I am talking about a small secretariat to assist it in thinking through how to do this work on a permanent basis.

Dr Carney: Provided that we rotated through those members of the secretariat, it should be a positive learning experience on both sides for that, yes.

Chair: So, you support that as well?

Dr Carney: It is the first I have thought of it, but it seems a reasonable-

Q49 Chair: It seems a reasonable idea. Do you think that when these reviews come back, the court or board should be expected to assess the merits of these retrospective reviews that have taken place, the substance?

Dr Carney: You mean the quality of the review or the quality of-

Chair: The quality of the review and of the points that the reviewers have made and to be prepared to come before this Committee and explain why they think, "There are some very good points here", or, "There are some very weak points here".

Dr Carney: The review is for the benefit of firstly the Oversight Committee, but then ultimately the court and the institution as a whole, so there has to be reflection on it. My understanding is that the court has appeared at this Committee, and my understanding as well is that records of minutes of the court will be furnished to the Committee, so it seems reasonable to-

Q50 Chair: Our problem though is at the moment, the court’s formal responsibilities are confined to commenting on processes and procedures, not on the substance of the work they are commissioning, so they are in the extraordinary position where they commission a report that they are not permitted to offer review on its contents. We think that is, as I have just said, extraordinary, and we think that needs to change.

Dr Carney: I guess I would presume that any review that is commissioned by the court would become a matter of public record, the recommendations/observations in those reviews and that the expectation would be that senior management and myself and other senior management would have a duty to respond to those recommendations. That first would be to the court, but obviously to this Committee, if the Committee took an interest.

Q51 Chair: But what I am asking you is whether you think the court or the board should be capable and be expected of being capable of expressing a view.

Dr Carney: A view-

Chair: About the merits.

Dr Carney: Of the recommendations?

Chair: Yes, of retrospective reviews. Does that sound reasonable, Dr Carney, or can we park it in this "reasonable" place that you have created for all these suggestions?

Dr Carney: Yes. I think the only hesitation I have is the line-which I do not think you are suggesting, but I will just put it on the record-between review of process and resourcing and then review and influence on policy decisions.

Chair: Current policy decisions?

Dr Carney: Yes, but retrospective, if retrospective is last month; it will influence current policy decisions, so there is a line here.

Chair: Where they will interfere with other committees, the FPC-

Dr Carney: There is a danger where that could happen, and of course what happens there is that the accountability is blurred, which is what nobody would want, and so this has to be somewhat circumscribed. I do believe that with any of the reviews, whether they are commissioned by the court, commissioned by management, commissioned externally, that it is the duty of senior management to respond directly to those observations and recommendations.

Q52 Chair: I got two out of three into the "reasonable" car park; so I am reasonably happy. Can we turn to monetary policy? You have made a number of interesting remarks about monetary policy recently, to say the least, and you have a number in your responses to the questionnaire. Is the UK’s current monetary framework the right one for assisting economic conditions?

Dr Carney: I would say that the experience in Canada, Canada shares the monetary policy framework of the UK. It is a flexible inflation-targeting framework, a symmetric target of around 2%. I would note, as I believe I did in my written submission, that what we do in Canada is we review our framework every five years. There is a public review process and then that framework is either amended or reconfirmed through effectively an exchange of letters, a joint statement by the Bank of Canada and our Treasury, our Minister of Finance. We have found-and I personally have found-that that is a very effective process, because it ensures that there is constant learning about the operation of the framework and that there is shared understanding about the "flexible" word in flexible inflation targeting, and particularly over the course of the post-crisis period, where flexible inflation targeting is operating in a different environment and, in the case of the United Kingdom, an exceptional environment. I would suggest that it is important to ensure there is buy-in, if I can use that term, to the existing framework. I start from a position, to answer directly your question, where flexible inflation targeting is the most successful monetary policy framework that has been in existence, so the bar for change to that framework, the overall framework, is very high, but I would note that there seems to be an appetite for some debate about what exactly the framework is and what alternatives could be considered and that should be encouraged.

Q53 Chair: You said that we need buy-in, as you put it. Do we have buy-in now?

Dr Carney: I will go to the heart of the issue, or part of the issue, which is that one of the questions that has to be answered in these types of frameworks is how much flexibility can the Central Bank exercise in returning inflation to target? I am referring specifically to flexibility in terms of time, because there is a series of judgments made by the Central Bank over what is the optimal path to return inflation to target, and optimal in the sense of what impact would returning to target quicker or more slowly have on output and employment in the country. In Canada, in general we return inflation to target over six to eight quarters, but 25% of the time since we have recorded our forecast, we have done it less than six or more than eight, and in some cases 10, 11, 12, quarters, and the reason we have done that-we look to clearly explain the reasons behind it. For example, right now we are taking a little longer to return to target because we have issues with the rise of household credit and issues in the housing market, so even though rates are only at 1% we are leaning into the wind, if you will, on monetary policy to help reinforce macro-prudential measures that the Government of Canada has taken and slow the rate of growth of credit in Canada. But that is a very clear, transparent process. That is the exercise of flexibility in that regard.

One of the issues in the United Kingdom is the speed with which inflation is returned to target from above in an environment of necessary public and private deleveraging, and what is the optimal path of monetary policy in that environment, given the impact of different paths on output and employment. What discretion does the Central Bank have? That is where there should be buy-in, because it is a delegated authority with responsibility to the Central Bank.

Chair: Do we have buy-in at the moment?

Dr Carney: The response to remarks that I made and what was read into remarks that I made suggests an appetite-at least to me-for proper debate about the monetary policy framework. I noted that the Chancellor said he welcomed that debate; the bar for change is high. I agree with that. The bar for change is high, but there should be that debate, a relatively short debate, because I don’t think prolonged uncertainty about the framework is in anybody’s interests, and then either a reconfirmation of the existing framework or a change.

Q54 Stewart Hosie: Dr Carney, irrespective of the debate or the outcome on the monetary policy framework, we are still going to have a situation that is different from Canada. You reached the decision, you say, about consensus in the governing council. The decisions here are taken by the MPC on the basis of one member, one vote, some internal, some external, some other external observers who can’t vote. Will that be a culture shock, the way in that the MPC determines what it does?

Dr Carney: It is a different way of making these decisions, but it has proven itself to be an effective way of making these decisions, so I look forward to it. In the Bank of Canada, I operate in an environment, as you say, of consensus. That is absolutely clear, but in other environments it is more a working consensus.

Q55 Stewart Hosie: This is quite vital. You have been incredibly successful, but it is on that consensual basis within the Bank. Are you ready for strong-willed external MPC members to publicly disagree with you?

Dr Carney: Yes. I think some already have.

Q56 Stewart Hosie: Are you prepared to be outvoted?

Dr Carney: Yes. I forget the phrase earlier, but I would like to be on the right side more often than not; but obviously I would fully imagine that over the course of my term I would be outvoted.

Q57 Stewart Hosie: You spoke about transparency a little earlier. What do you think of the Bank of England’s Inflation Report in its quarterly bulletin, its main public-facing publication?

Dr Carney: In many respects, the Inflation Report was best practice when it came out. It has had a number of innovations since. I think fairly clearly, at least in my reading of the Stockton Review, there are suggestions in there that could potentially be taken on by the Bank that would further improve the Inflation Report, for example, greater clarity about policy judgments that are made; alternative scenarios potentially that could be shown; there is also a potentially greater disaggregation of the forecast, which is a less disaggregated forecast than some others that are put out. So, my understanding is that I am certain all of these recommendations are being looked at by the Bank, but I would expect that some of them would find their way into a revised Inflation Report in due course.

Q58 Stewart Hosie: Would you like to see policy options as you have just described put into these documents?

Dr Carney: There is value from time to time of alternative scenarios, and there is certainly value in every case in highlighting the core assumptions that drive the forecast. I will give you an example, if I may-I am going to rely on the Bank of Canada-right now. What we particularly highlighted in our equivalent of the Inflation Report that came out two weeks ago was the export response and the investment response that is required to get the economy back to potential. The fact is there is a large rotation in the components of demand in Canada that we are expecting over the course of the next two years, it is sizeable. Reasonable people can disagree about the likelihood of that happening, and if it does not happen, obviously it will have an implication for output inflation and ultimately monetary policy in Canada. So, that is something that we wouldn’t do as matter of course. We used a variety of charts and boxes to explain. We wouldn’t do as a matter of course, but we did because it was particularly relevant to this forecast. So it is that type of communication.

Q59 Stewart Hosie: That is helpful. Just one final little technical question: the Bank of Canada meets eight times a year on monetary policy. The MPC meets 12 times by statute. Do you think 12 is too many, eight is enough, eight is too small-what would you do in terms of the frequency of this kind of meeting and determination?

Dr Carney: It is by statute, and I cannot imagine the statute would be reopened for this issue. It is certainly enough to meet 12 times.

Stewart Hosie: Is it too many?

Dr Carney: It verges on too many, yes.

Q60 Jesse Norman: Dr Carney, you have very interestingly said that you think there should be a brief but proper debate about monetary framework. Do you think that is also true about quantitative easing?

Dr Carney: My understanding is there is a review that has been launched by this Committee on quantitative easing.

Jesse Norman: No, but by the Bank. Do you think the Bank should have a wider consideration of the full effects?

Dr Carney: I would hope that the Bank would be invited to contribute to this Committee’s review of QE.

Jesse Norman: I think we would be delighted. Thank you very much.

Dr Carney: Yes. I understand the interests of the Committee in the wider effects and I read your piece this morning, your personal interest in that, which is shared by us. I am aware also of the exchanges that have taken place in the past, and it is not going to surprise you, as a central banker, I start from a position that is very similar, if not identical to those of the current management of the Bank, which is to look at the wider economy effects; to look to root quantitative easing in the context of the Bank’s remit and effectiveness of achieving that remit; to recognise that there are distributional consequences of QE-as you pointed out and as others have pointed out-but to observe that all monetary policy has distributional consequences and that response to those distributional consequences of quantitative easing is more properly the job of others, as opposed to the Bank in and of itself.

Q61 Jesse Norman: In Canada, flexible inflation targeting has yielded a rate of inflation that is fractionally higher than 3% over decades, but in this country-

Dr Carney: Two.

Jesse Norman: Two decades?

Dr Carney: No, sorry. The flexible inflation targeting has yielded inflation of 2% in Canada over decades, since 1991.

Jesse Norman: I am sorry, I apologise.

Dr Carney: Just for inflation expectations.

Q62 Jesse Norman: If I said 3%, I apologise, but thank you for that. The point I want to make though is in this country, we have had a very long succession of quarters in which inflation has been well above target.

Dr Carney: Yes.

Jesse Norman: Do you think that means that inflation targeting is too flexible in this country, and if so, put it this way, is that because they are aiming high or just too tolerant?

Dr Carney: I think that there are a couple of factors. I would agree that the MPC has quite appropriately looked through a series of one-off shocks, upward shocks to the measured inflation rate and that it has appropriately provided stimulus to the economy that is facing very large headwinds, as you know. I think the nature of the question though reinforces the point I was trying to make earlier, which is that there should be a shared understanding of the flexibility that is there. In other words, over what period does it make sense to return inflation to target? It is fair to say that in a number of those circumstances, the actual expectation of the MPC, in good faith, was that inflation would return to target sooner than it did, because there were other shocks that occurred. So I stress that my view would be that it is important-again, I am slightly repeating myself-that there is a shared understanding that there is flexibility and why there is flexibility in terms of the returning to the target; the first point. The second point is that in these exceptional economic circumstances that the UK is facing at present, with inflation above target as it is at present, in the context of this discussion on the framework I think it would be quite useful to have a shared understanding about what potentially is the optimal timeline to return and why; what the impact could be on employment; what the impact could be on output.

I have suggested this in broad terms, that there is merit to considering some sort of Federal Reserve style-I apologise for the jargon-threshold-based guidance. The question in the UK is as it would be in Canada, if we were in that situation does one make that time-contingent or state-contingent? Is it around a particular economic variable that indicates-

Q63 Jesse Norman: In terms of my question, too tolerant rather than aiming high? They have been too tolerant in monetary policy rather than aiming higher to declare-

Dr Carney: Yes, I have no reason to doubt the MPC. I think further, in looking through these shocks, they have ensured that there has not been a deeper stagnation in the UK economy.

Q64 Mr Ruffley: Dr Carney, your 11 December Toronto speech: you talked about many things, but I want to focus on forward policy guidance. Your experience in Canada was that in April 2009, you announced that the policy rate, the interest rate would be held until the end of the second quarter of 2010. You were pre-committed to low interest rates, conditional upon the inflation outlook. What was the evidence on which you based that? Where has that worked before successfully?

Dr Carney: We looked at this. I would say a couple of things, and I will get to the specific policy in Canada as part of my explanation. The general view is not shared by all central banks, but the general view within the Bank of Canada-or certainly I share-is that in normal times, policy-based guidance is relatively ineffective, so publishing an interest rate path is something that we looked at and we decided against in the Bank of Canada because effectively it wouldn’t move market expectations, and quite frequently the conduct of policy was materially different from the path, the expectation at the time. On the margin, that is another thing that the Central Bank is "wrong" about; it reduces its credibility. That is our view. There are some central banks we fully respect that continue to publish interest rates in "normal" times.

But our view is once we came to the zero lower band, the lowest interest rates could go, that we were faced with a couple of choices at that point, because we felt that the economy needed additional stimulus at that time in Canada. One was quantitative easing, we could have credit easing, and thirdly, we felt that we could use communication to provide the extra stimulus. We were not in the position that the Bank of England was in when it reached the zero lower bound, where the UK economy needed considerably more stimulus. We needed a bit more stimulus. So our judgment was, given the costs and benefits of quantitative easing and potentially credit easing, that we would use communication in order to help manage market expectations, because market expectations at the time were for a sharper increase in interest rates sooner than were our expectations. There was a material difference, in our view, on how long interest rates would be at that zero lower bound versus the market, and so within the bounds of our inflation target we did our best to credibly commit that we would keep rates low at that level for, at the time, 15 months. That had a couple of effects. It had an immediate effect in the money markets and out the interest rate curve, an immediate measurable effect that persists and we have event studies of this. Mike Woodford has done event studies; other people have looked at it. So that persisted, so there was a direct sort of pass-through effect to broader financial conditions.

But as well, which is harder to measure exactly, but I firmly believe did happen, is it had a very important effect in that it reached over the heads of central bank watchers and the financial markets and directly to Canadians and sent a message that there was going to be stimulus for a period of time. Remember that the Canadian banking system was functioning well, so this was true, that borrowing was available at unprecedented rates for a period of time so that people could plan and put in place whether they were going to buy a house, renovate, make an investment. They had enough time to go out and act on this, and I can tell you anecdotally, everybody knew about this commitment in Canada, everybody who was active in the financial system knew about the commitment in Canada, and it had an effect.

So our experience has been that this is effective. It was a conditional commitment, as you know, and as you know as well, in the end, in part because of the response of households and businesses to the commitment, we ended up raising interest rates sooner than we had said, because we had made our commitment conditional on the outlook for inflation. Our view was that if we kept it on, by the time we came to the spring of the following year, of 2010, we would run a risk on inflation.

If one brings it to the situation in the UK today and thinks about the potential use of guidance in this economy-I should preface all of this in that, as you are all aware, I am not the Governor of the Bank of England; I will not be for another five MPC meetings. The MPC is meeting today and takes its own decisions, and so when I talk about policy and policy options, I am talking in the general, even though I am trying to use a UK-related example.

Mr Ruffley: Understood.

Dr Carney: Yes, because lots of decisions will be taken before I arrive and the economy could be in a different place by the time I arrive. That said, in the UK context, I think there is a valid discussion to be had about the potential use of this tool to provide additional stimulus, if it is appropriate, again within the context of what is the time path for returning inflation to target. I would further add that given some of the challenges with time-contingent guidance, in other words, rates will be lower for a certain period of time, some lessons can be drawn from what the Federal Reserve has done with state contingent guidance.

Q65 Mr Ruffley: Just following up that point, the Fed seem to have gone further, and you draw this to our attention in your 11 December speech, because apart from pre-committing in the normal way that they often do, they went further. You say, "For a considerable time after the economic recovery strengthens". Is that something that we should have as part of the debate you refer to when you take up office?

Dr Carney: This is one of the judgments about the optimal path for inflation and the optimal path for the economy and where-

Q66 Mr Ruffley: But it is a pretty much open-ended pre-commitment, and I presume it will be conditional on the inflation outlook, as you have pointed out. I am just trying to understand whether you are quoting this with approval, Dr Carney, on 11 December, your Toronto speech, "For a considerable time after the economic recovery strengthens". You refer to your happy experience in Canada in this speech, and I am getting-and other commentators have been getting-the clear impression that this is something you are very attracted to.

Dr Carney: At the zero lower bound.

Mr Ruffley: At the zero lower bound?

Dr Carney: Yes, at the zero lower bound, and thank you for drawing attention to it. At the zero lower bound, in order to get sufficient momentum in the economy to justify an exit from the zero lower bound, there may-and it is situation-specific and it requires analysis and clear exposition of why that might hold in the UK; where it does hold in the US, I believe that, and did hold in Canada, it was certainly the case there-be a need to develop sufficient economic momentum to justify moving off the zero lower bound. In the case of Canada and in the case of the United States, and I would suggest also in the case of the UK, in all of those cases, the extent to which that strategy is pursued is bounded in some way by the actual outlook for inflation. In Canada, we had a conditional commitment, conditional on the outlook for inflation. In the current guidance of the Federal Reserve, which is there was not the possibility-not their exact words, but effectively their words-of tightening policy in the United States until unemployment falls below 6.5%, they bound that pledge with, "Unless the outlook for inflation is above 2.5% one year out". So again, there is an outward bound on this, and I think in the design, if that were the view and if circumstances ever mirrored it in the UK, something similar would have to be devised, because this has to be consistent, ultimately. All of this I view as being discussed under a flexible inflation targeting regime, so it has to be consistent with that regime and ultimately bounded by the medium term target.

Q67 Mr Ruffley: My final question; it will be quick.

Chair: If you could be very quick; and a quick reply.

Mr Ruffley: Adam Posen, who, as you know, left the MPC last year, has given evidence to this Committee that such forward guidance was a gimmick. He is obviously sceptical. Is there evidence that you can produce, going back to my earlier question, of the success of this, empirical evidence to show that if a change like this were to be made, it was founded on serious empirical evidence, because Posen doesn’t seem to think there is such evidence.

Dr Carney: First off, the decision of the Bank of Canada was made on extensive analysis. Secondly, the ex-post reviews of the effectiveness of the conditional commitment have found that it was effective, and I can furnish you a Bank of Canada working paper.

Mr Ruffley: That would be helpful.

Dr Carney: I would refer as well to the Michael Woodford, Jackson Hole paper of just this past summer.

Chair: In an earlier reply, you described it as an event study, I think, which sounds like the key document.

Q68 Mr Mudie: Welcome, Dr Carney. One of the things that a lot of people have zoned in on and that has given a lot of people some encouragement about your appointment has been your statement that, "Monetary policy has a key role to play in ensuring economies reach escape velocity". I know you are four months away from taking over and you are in Canada, but can we take it as said that the present monetary policy is not achieving escape velocity and are you prepared right from the outset-do you have the courage to, the ambition-to challenge present monetary policy re its fixation with inflation targets?

Dr Carney: Thank you for the question. I would answer the second part first, which is that obviously the responsibility of the MPC of the Bank of England is to discharge to the best of its ability the remit that is given to the MPC. The remit, as it stands, is to achieve 2% CPI inflation over the medium term, as you know. That is the best contribution ultimately of monetary policy. What I have tried to stress is this issue around the path to get to that medium term and the optimal path to get to the medium term, and I think the behaviour of the MPC, or the decisions, rather, of the existing MPC have demonstrated a concern with that as well.

To get to the first part of your question about escape velocity, the only reason I hedge is that I am not expert enough on the current situation in the UK economy and the forces affecting output and inflation. I am not party to all the analyses of the MPC. As you know, I am not a member at present. It is entirely possible, in fact probable, that the current stance of policy is consistent with the economy achieving escape velocity. In other words, the UK economy achieving a sustainable rate of growth into the headwinds that come from public and private deleveraging that will be with this economy for a period of time. The question is not where policy is today, but where policy is going to be tomorrow and in subsequent months and potentially years. To draw it back to the earlier discussion, the question is whether there can be any clarity given about the potential path of that policy and whether that can be usefully given at the time I take office in order to provide-

Q69 Mr Mudie: The question is, Dr Carney, will you be coming to the table in June immediately, recognising that we have flat-lined for two years, with fresh monetary policy initiatives that may raise the valid question of its effect on inflation and be prepared to say it is a balance that must be discussed but seized upon and decided upon?

Dr Carney: I take office in July. My views on the stance of policy in July will be conditioned on the outlook for output and inflation in this country, and so I do not want to pre-commit to my stance at that point because it will also be importantly affected by the decisions of the MPC today and in subsequent meetings. Your point, though, on instruments is that it clearly is the responsibility of the MPC and the staff of the Bank of England as a whole to continually review the effectiveness of the various instruments that are available to monetary policy. If stimulus is required to determine not just the cost and benefits of existing instruments-whether it is QE, funding for lending, other asset purchases, changes in the Bank rates, potential communications-but to devise, if necessary, new instruments that could provide stimulus more effectively, if it is required, and we certainly will do that when I am there.

Q70 Mr Mudie: I am hard-put to understand exactly what you are saying to me in terms of fresh initiatives, but the Chancellor has been in the paper with a speech yesterday asking the Monetary Policy Committee to be a bit more aggressive in terms of stimulating growth. Will that be your starting point? Do you understand the urgency in this country about stopping idolising and focusing totally on inflation policy and putting into place, as the Chancellor can’t because of the fiscal difficulties-the ball for growth is in your court. Does this statement mean you understand that and you are going to, from day one, go for accepting a partnership with the Chancellor in terms of understanding you have to do something for growth because he is fiscally too tied in?

Dr Carney: Unquestionably when I come to the table there will continue to be considerable slack in the UK economy, as evidenced by the labour market and more broadly across industry. Unquestionably that will be a situation that merits, for a period of time, considerable monetary policy stimulus. Those judgments about exactly how much to calibrate, which instruments to use, have to be guided by the remit that is given to the Bank under the 2% inflation targeting. I think that, as I have stressed, in order to achieve an optimal, the ideal, the best, outcome in terms of output in inflation, it is discharging it at the moment but it continues to be the responsibility of the Bank to lay out the potential path back to sustainable growth in this economy that is consistent with that 2% inflation target.

Q71 Mr Mudie: Within the present remit, yes, but, as you will have a honeymoon period and as the Chancellor is anxious for your assistance in the Bank, would you consider taking that window of opportunity to persuade the Chancellor to go for a dual mandate along the lines of the Fed, which would help you with the voting members of the Monetary Policy Committee who may stifle your individual efforts to change monetary policy?

Dr Carney: I said at the outset of this section that I think there is merit in debating the framework in Britain and coming to a relatively quick conclusion on it. I would say as well that my view, where I am sitting here today, is that the best framework remains flexible inflation targeting. That is the best framework. Properly operated, properly understood, is the best framework and using the full power of that framework and the tools under that framework is going to be the best contribution, not just to price stability but to full employment in this country and in my home country at present. To answer your question, I do not start from a position of looking for a dual mandate. I do start from a position, which is I believe is shared by the current MPC, which is in the current environment considerable monetary policy stimulus is required in order to take up that slack in the economy as quickly as possible. If more is required, once I am in office I will do my best to convince my colleagues to pursue it.

Chair: I have five colleagues who want to come in on this area, so I will ask them if they could be reasonably brief.

Q72 Mr McFadden: Have you had any discussions with the Chancellor during the interview process for the job or subsequently about changing the MPC remit or considering changing the MPC remit?

Dr Carney: We have had a couple of higher-level discussions not as detailed as we have had today but along the lines that we have had today about the merits of looking into the remit and considering whether there should be a change; not discussions that lead to a specific view of what that should be, but on the general issue. I would reconfirm that, subsequent to my December speech and the reaction here to that speech, that was a natural discussion to have given that there seems to be a broad interest or sufficient interest in at least discussing this. It makes sense to have this more broadly.

Q73 Mr McFadden: You have said that you think there is an appetite for the discussion and that you have had some high-level discussions with the Chancellor. Can you give us an indication of what the process for this might look like? You have said that it is something that happens periodically in Canada. If, on taking office, you are going to pursue this and look at this, what would that look like? On what timescale? Who will be involved?

Dr Carney: Any decision, as you know, on the remit is a decision for the Chancellor and for the Government, so I would not presume to give directions. Obviously what I can comment on is what happens in Canada and the way it happens in Canada is that, since the adoption of an inflation target in 1990, there have been reviews every five years. In the run-up to those reviews the Bank of Canada does a lot of research and interested academics do some research and then we have a series of discussions with our colleagues at our Department of Finance, our Treasury equivalent, and then a decision is made. I have made the point that I see value in having the debate. It is clearly a decision for the Chancellor and the Government whether they are satisfied with the level of debate or the shape of the debate and are satisfied to reconfirm or adjust the remit as they see fit. I am hesitating to dictate a process to those who have to make those decisions.

Q74 Mr McFadden: We have discussed in the questions in recent minutes some of the options that have been canvassed for this, whether it is guidance for thresholds and so on. Another one that you have discussed is nominal GDP targeting. Can you tell us your thoughts on that and whether you think it is a serious run-out as an alternative to the current remit?

Dr Carney: I would go further to specify that this would be a central bank targeting the level of nominal GDP; so real GDP as we conventionally think about it plus the level of the GDP deflator and the Central Bank would look to target the trend of that level. To put it into context, as I am sure you are aware, in the UK today the gap between the pre-crisis trend and now is about 15%. All of that gap and a bit more is because of a shortfall on real growth relative to trend. The actual price level has more or less kept up to trend but, nonetheless, this gap in nominal GDP has made the deleveraging process much harder for individuals because there is less income, much harder for Government because of the fiscal feedback that is there and it has challenged the recovery. There are advantages, in theory, to nominal GDP level targeting, particularly when an economy is at a zero lower bound and the advantages are based on augmenting inflation expectations and reducing effectively real interest rates with a higher degree of credibility than under conventional inflation targeting.

The reason for the higher degree of credibility, in theory, is because, to use the jargon, bygones are not bygones under nominal GDP targeting. If, in the initial years of providing stimulus to try to get back to the old trend-sorry, I should not be doing the trend like this-there is additional shortfall the Central Bank has to make it up because the gap has widened. That brings on more stimulus, and the knowledge that more stimulus would be provided in that event provides stimulus in the current environment. That credibility is there. The other advantages of nominal GDP targeting relate to when there is a supply shock; for example, the supply shock that we experienced here because of higher oil prices. The central bank is better able to look through those short-term supply shocks and, in what seems like a very distant past, is better able to respond to positive supply shocks, positive productivity shocks, because that encourages some increase in interest rates to lean into the wind against that, which reduces the prospect of financial imbalances.

Those are the core benefits of nominal level GDP targeting. The challenge is that people have to behave in reality as economists think they will behave in theory. In other words, there has to be a widespread understanding of the objective that the Central Bank is pursuing. Now, after decades of inflation targeting many people will know, "Okay, the Bank is supposed to get 2% inflation". I know when we look at businesses in Canada, when they run their forecasts, if they have an inflation assumption they just use 2%. They do not bother thinking about or monitor and that very act reinforces the effectiveness of the policy; that heuristic, that way of thinking about where inflation is going to be. For nominal level GDP targeting you have to think about where the gap is relative to some trend, a trend that is determined by the Central Bank, and it is much more complicated even for experts to follow let alone the man or woman on the street.

We have done a fair bit of research on nominal GDP targeting at the Bank of Canada and the related variant price level targeting and what we have found is that if a significant proportion of agents in the economy do not follow the rule, do not understand what the Central Bank is doing, effectively the main benefits of nominal level GDP targeting go away and flexible inflation targeting dominates even in a zero lower bound scenario. There are some other downsides with it in terms of measurement errors and in terms of the fact that you are ultimately targeting GDP inflation, which is not the consumer basket. So, you are targeting a level of inflation that does not directly map to the level of inflation that individual’s experience. Implicitly, that is what you are doing.

All of those factors leave me far from convinced of the merits of moving to nominal GDP targeting, but it is a valid part of the debate if one is looking at a framework-and I will end with this and pass back-because its best prospect of success, its most power and its biggest payoff is in a circumstance when an economy is in exactly the position that the UK economy is in. It is entirely appropriate for it to be analysed in that context but, as I think I have indicated, given what I have experienced and what I have known and the research I have seen, as I sit here today my view would be that flexible inflation targeting, potentially deployed in a slight different way depending on the circumstances, would remain a superior alternative to a shift of framework.

Q75 Mr McFadden: That is a very full explanation; thank you. Does part of you worry that in the discussions of these options there might be a danger in confusing people about what the future MPC remit might be, creating uncertainty about a regime that has been in place for a long time and which, as you say, is well understood, or do you take the alternative view that the conventional tools that have been used in the UK so far have not allowed us to reach, your phrase, escape velocity and growth has been so flat and confidence in the future has been so low that with the arrival of a new Governor it is time to reconsider the measures in the policy basket in front of us?

Dr Carney: The latter. I think that the economic circumstances here are clearly exceptional and, as the debate has shown, there are different points of view. There is a value to getting those out in the open and coming to a speedy conclusion on that and moving forward. As an institution that has delegated responsibility, obviously, reconfirmation of exactly what exists or some variant of that is what we need in order to discharge our mandate. If I may just re-emphasise, I think the process helps address your concern in that, if there is a widening range of opinion of what is right and the role of monetary process, the process of that debate and, reconfirming my view, the value of flexible inflating targeting is, in and of itself, valuable and important.

Q76 Mr McFadden: Even if we looked at all these and we ended up where we are, your belief is that the process of going through that is itself beneficial?

Dr Carney: Yes, and that is the experience. We have not had necessarily difficult debates in Canada, but there have from time to time been important issues over the past two decades that have come out during these review processes, and it is valuable because it leads to a broader shared understanding of what the Bank can and can’t do.

Q77 John Mann: Dr Carney, would it be right to presume from what you have been saying that you think it is an appropriate position to take that the Bank of England should feel confident in questioning its own remit?

Dr Carney: Clearly the decision of remit is a decision for the Government. The bank is obviously very well informed on the conduct and the effectiveness of the current remit under various alternatives. In fact some of the members of the Bank, Charlie Bean for example, are leading experts in some of the alternatives. I think the Bank can play a role in informing that debate.

Q78 John Mann: That is not quite the same. Would it be reasonable for the Bank to question its own remit, presumably on the basis it felt that there was a question to be asked?

Dr Carney: I think that if the Bank were invited to question its remit, it is reasonable to respond.

Q79 John Mann: What if the Bank was not invited? What if the Bank felt that it was appropriate?

Dr Carney: It depends on how that questioning was conducted and here is what I mean. The bank is given a remit. The bank’s job is to execute against that remit and do its best to achieve the objectives of the remit; whatever remit is given to it by Government, that is delegated responsibility. To go to Mr McFadden’s point, active questioning of that remit can cause confusion about the remit and therefore make it less effective than it otherwise would be. I would make a distinction between a circumstance where debate has been invited-the question that has been asked-it is appropriate for the Bank to respond to that. I would also say further that it is appropriate as normal course through the research programme of the Bank that the Bank would look at various ways to improve monetary policy frameworks, macro prudential frameworks, publish on that, give evidence, go to conferences and those types of things, but that is distinct from having a bank view that the remit should be changed. Again, I would re-emphasise that once a remit is given, and the remit I know is given annually, then the Bank’s job is to execute against that.

Q80 John Mann: In answer to an earlier question you stated that the policy of the Bank of Canada and the Bank of England were the same: "flexible inflation targeting". That is what you said. I recall questioning the current Governor on precisely this issue at some length. I believe it was in 2009, and I have returned to the issue with him since. Very explicitly I raised the issue with him for quite some time and he was explicit that they should not be flexible, that the inflation target was the inflation target. So it is not the current policy as outlined by the Governor. You are suggesting quite a significant change of policy happens to be the one that in a sense I was suggesting to him. Why are you suggesting it is the same policy?

Dr Carney: Two things. I am afraid I am not familiar with the exchange to which you are referring with Governor King but I am familiar with speeches and others of Governor King where he does refer to flexible inflation targeting and in fact he is one of the intellectual founders, if you will, of inflation targeting through his research. What we share between the Bank of Canada and the Bank of England is a symmetric target, 2%, and a commitment to floating exchange rates; a policy that is anchored around a medium-term objective to achieve that inflation rate in recognition that that is the best contribution of monetary policy to economic outcomes; and a variance in the time horizon to return to target. Some of this could be the result of the structure of decision-making or it could be for other reasons, but where I think we have differed since the crisis has been in the Bank of Canada’s maybe greater precision around the definition of what flexible inflation targeting is and how we have deployed that flexibility; initially with the conditional commitment as Mr Ruffley raised but also more recently, as I referenced, as we have leaned into the wind in the face of too-rapid credit growth.

Q81 John Mann: Eyebrows count for quite a lot, but the exchanges I have had with the Governor were unambiguous, and this terminology has suddenly crept in: "flexible inflation targeting". I note that in media briefings overnight the Chancellor of the Exchequer has used exactly this terminology and someone suggested it rather suits the Chancellor in terms of fiscal policy to have such a concept suddenly broadened. I wondered, as the Chancellor has been using precisely this, how quickly are you going to poor some salt on his head to create a clear independence between yourself as the new Governor of the Bank of England, or are we going to see a shift in that whereby the role becomes more political, less independent?

Dr Carney: First, a point of detail but an important detail. The terminology "flexible inflation targeting" is not new. The literature on inflation targeting, the academic literature and the policy usage of the term extends back decades, so this is not a new term.

Q82 John Mann: Its use in this context in this country has come in since you raised it.

Dr Carney: I would suggest that the practices of the Bank of Canada initially but, more importantly-and recalling as well that Mr Mudie referenced the dual mandate of the Federal Reserve-the Federal Reserve has, within the context of its dual mandate, defined itself within the past year as a flexible inflation targeting central bank. The conduct of policy of the Bank of Canada and, as I say, more importantly of the Federal Reserve has brought the issue of flexibility more to the fore, but you raise a crucially important point.

There will be no question about my independence as Governor of the Bank of England, the independence of the MPC or the independence of the institution. There is a governance structure that is being put in place that this Committee has very importantly contributed to, but there is an absolutely clear structure. We get a remit. We execute that remit as best as we see fit and no political influence will come to bear-it might be attempted but it will not come to bear-and have an influence on the execution of that remit. That is why, quite appropriately, such focus has been put on accountability and governance.

Q83 John Mann: But you will see the moment it moves from inflation target to flexible inflation target that "flexible’ is not precisely defined. I happen to agree with that approach. I think it is sensible. However, one has to recognise that, first, that is a change and that, second, there is a political dimension. Not your or the Bank trying to enter politics but a Chancellor of the Exchequer trying to cling to your coat-tails because flexibility is great for politicians.

Dr Carney: The point in this broader discussion, which I very welcome, is to define and circumscribe that flexibility. I think the point that I have been trying to make is that that flexibility does exist and that flexibility is exercised from time to time, to different degrees and with differing degrees of transparency across central banks around the world. Best practice would be to clarify exactly how much flexibility the Central Bank has, in what circumstances and then delegate to the Central Bank to exercise that flexibility as it best sees fit to achieve the remit.

Q84 John Mann: Do you think we should judge your success on economic growth in the country over the next five years? I was the only Member who met our equivalent committee from Canada two weeks ago and it is an entirely different question but I would like to throw it in because I think it is important. To summarise, they suggested that one of the strengths of the Canadian economy was that the Bank of Canada had a strong regional input and, therefore, it looked at the whole economy. You are moving from Ottawa, which is a relatively small city economically within Canada, to London where one could, if one wanted to be mischievous, call it the Bank of the City of London rather than the Bank of England or the Bank of the UK. Quite separately, my second question is: are you intending to look at regional imbalance in terms of the culture and decision-making of the Bank of England that some would suggest, both across England and the UK, has been one of its great weaknesses and one of Canada’s great strengths?

Dr Carney: Judgment of relative success in five years’ time with respect to monetary policy is on price stability as defined under the remit. Five years is unquestionably the medium term and the remit, as it stands and quite appropriately in my view, seeks price stability. The responsibility of the Bank is to achieve that. There are various paths to achieve it, but that certainly has to be achieved, and that is how I would expect to be judged as Governor with respect to that.

Your second question: yes, I believe that is a strength of the Bank of Canada, and I believe, coming in, that it can be a strength and is a strength of the Bank of England. There are 12 agencies across this land and I intend to be out visiting them all. It is important, through the monetary policy process, that we draw input directly from those agencies because they are the ones out talking to businesses in the field and that is what supplements more important but abstract statistical data and statistical models.

Your point about rebalancing is absolutely right. One of the challenges in the UK economy is ensuring that the rebalancing that is taking place between the relative weight of the financial sector and, to some extent, the oil and gas sector, but away from those sectors others that spread across the country, is necessary. Also, its relative success or failure has an important impact on productivity and, therefore, potential and inflationary pressure. So it is highly relevant to the Bank.

Q85 Chair: You have said a number of very interesting things there and I just want to be clear on what at least I think I have heard. On independence, you appear to be reasonably relaxed about the idea that a Chancellor might express a view about aspects of the conduct of monetary policy. Today he is reported as pressing the Bank of England over growth. That is a lead story in the FT. Do I have that right, first of all: more relaxed than has been the case in the past?

Dr Carney: Let me answer it this way. I do not anticipate making a large number of comments about fiscal policy, so I would not expect a large number of comments from-

Chair: That is not quite what you said in your written evidence to us, is it? In response to our question, "Should the Bank of England have a role in commenting on fiscal policy", you have hedged just a little, have you not?

Dr Carney: I didn’t hedge.

Chair: "We have a duty to comment", you said, for example.

Dr Carney: In extreme circumstances where the fiscal position is such that it could imperil price or financial stability, which are the core objects of the institution, but as a general rule the Bank takes fiscal policy as given and then optimises against that.

Q86 Chair: It could be said that there has, since Bank of England independence in 1997, been a bit of a non-aggression pact here where you keep your tanks off the Chancellor’s fiscal lawn and he keeps his tanks off the Bank of England’s monetary policy. Am I wrong to have interpreted anything you have said on this to mean that you are more relaxed about there being a bit of a public debate than has taken place in the past, or do you want things to carry on exactly as they were with respect to the maintenance of that demarcation in debate?

Dr Carney: Let me say a couple of things if I may, first with respect to specific story to which you are referring today from FT. That is the sum total of my knowledge of "the Chancellor’s remarks". I know in that story it indicated that I was meeting with the Chancellor this week. I am not meeting with the Chancellor this week. I never was and so I take that story with a grain of salt in terms of the overall thrust of it. That is the first point.

The second is that I stand by obviously what I wrote in terms of our role and, in commenting on fiscal policy, it is very much the exception. Obviously we have to be informed about fiscal policy. We have to take it into our forecasts. We have to make judgments about the multiplier effects of fiscal policy, but these are antiseptic, objective judgments against which we then optimise. To be honest, I think that answers in terms of approach from the Bank’s perspective; but, to go back to Mr Mann’s question that I guess you were picking up in terms of independence, the value of a remit is that it is delegated responsibility to the institution to execute against that remit.

Q87 Chair: Then you should be allowed to get on with it?

Dr Carney: Then we should be allowed to get on with it.

Chair: You do not want these tanks on your lawn and you are suggesting we should take with a grain of salt-

Dr Carney: What I recognise is that a large part of the reason for the independence is that difficult decisions on the monetary policy side, on the macro prudential side, will not always be met with shouts of joy and so there inevitably will be commentary and the Bank’s job is to look through that.

Q88 Chair: The second area where I just want to be clear that I have understood what you have said is on inflation and on dealing with inflation. You think first that we should have a debate about the remit; that we should get on with it and that we should not have an undue period of uncertainty, but that might include GDP targeting as an approach.

Dr Carney: If there is a debate it would not be my contribution to the debate, but I clearly recognise that others would contribute. How is that?

Chair: You are going to sit quietly and let others engage in it all; like, for example, members of the MPC?

Dr Carney: I would expect that those who have a view would express one if they were-

Chair: But you are going to stay silent?

Dr Carney: No, I reserve the right to chip in if I may.

Chair: You do think there should be a debate about the remit and that that should be conducted in a way that creates a minimum of uncertainty. In other words, we should get on with it, but it should take place?

Dr Carney: I think it is taking place.

Chair: Yes, and that you are going to participate in it?

Dr Carney: I reserve the right to do that.

Q89 Chair: There have been some extremely interesting remarks, but the second thing that you have said is, whether or not we change the remit, there is a case for interpreting the remit somewhat differently. You have said, for example, you are interesting in pre-commitment, and you have touched on a number of other areas as well.

Dr Carney: I am glad you raise it for clarification. I think this could be, from my perspective, the principal benefit of that debate, which is not that the interpretation of the remit changes by dint of the Bank reinterpreting the remit. I thought Governor King in his last speech spelled this out quite nicely in terms of the trade-off between the path of output and inflation and that is something that was effectively delegated to central banks but needs to be more broadly understood. The extent to which that has been-I think this is a little harsh as an adverb-unthinkingly delegated, it should be thought through in terms of how much flexibility is delegated. I would not want to leave you with the impression that I think if there is not a debate, if there is not a process, that then the Bank can reinterpret its remit. It can’t. The point is that through the process of discussing what the remit is, and this has been our experience in Canada, by discussing what flexible inflation targeting meant in an environment of low for long, which is what we are living in, where you have a well-functioning banking system and macro prudential risk rising, what does that flexibility mean and how do you use it. We had that debate/discussion, and that has allowed us to reinforce the policies of the Government and our bank supervisor.

Q90 Chair: The last point I want to clarify on is you gave a very interesting set of replies to Pat McFadden about the pros and cons of alternative break, one of which you only touched on obliquely, and I just want to be clear how much weight you attach to this. One downside is the current view, a well-established view, that an anti-inflation strategy depends crucially on the establishment and maintenance of credibility over time. It takes a long time to construct that and, once you have it, it is a heck of a risk to change it because you accumulate that capital with great difficulty. You did not make that point. You obliquely touched on it at one point. Do you agree with what I have just said there or the description I have given for one of the arguments for caution before changing policy?

Dr Carney: It is one of the reasons.

Chair: If I may just add one more point, you said at one point, "This other approach might be particularly appropriate to the conditions of the British economy now". Of course, that may not be the case later, and that brings into relief that you should not change inflation policy to suit the seasons of the economy.

Dr Carney: Two excellent questions; I would endorse what you said on credibility. I think that is a consideration. It is one of the reasons why the bar for change is high, as I have said in my written submission and I think reconfirmed today. Secondly, yes, there is an issue with temporary adoption of a different framework for the economic circumstances and, as I think I have made clear, I am not advocating a wholesale adjustment framework to nominal level GDP targeting. Others have. I have not, but I will recognise that the exceptional economic circumstances in which the UK is in at present and has been for a few years is exactly the type of circumstances in which one would consider doing this. It is understandable that people have suggested that adjustment. My view is that I am not convinced, given the risks and other factors, and you rightly reinforced credibility, that it is a risk worth taking. In fact, my view is that, using the flexibility under flexible inflation targeting, we can achieve with lower risk more rapidly and more effectively the same economic outcomes. I mean broad economic outcomes in terms of output, employment and inflation.

Chair: You are right, of course, to say flexible inflation targeting is a term of art and the literature and goes back decades, but John is also right to say that it does seem to be given greater salience just now, and I notice that even in that reply it popped out.

Q91 Mr Newmark: I appreciate your Economic 101 tuition to Mr Ruffley earlier. I would like to focus on QE a little bit more. The Governor, in today’s announcement, announced that further QEs, putting everything on hold, have marginal impact on growth. Do you think that there should be further work on the efficacy of further quantitative easing?

Dr Carney: When you say the Governor’s announcement, is there an MPC announcement that has come out?

Mr Newmark: Yes, just this morning.

Dr Carney: All right, you are ahead of me. Should there be further work? I think that for all unconventional policies that the Bank has either pursued or could potentially pursue there needs to be additional work conduct on both the benefits but, very importantly, the costs as well.

Q92 Mr Newmark: I guess the analogy I used with the Governor when he was here is I have an old MG TD 1953 and, when I start it in the morning and it is cold, I pull out the choke and it sort of floods the engine and gets it going. I do not keep the choke out because the marginal effect of further fuel in the car does not have the same effect. I am fairly cynical on the effects of QE generally. That first £200 billion, I could see, had a positive impact. Do you see that there is much marginal benefit now to further QE?

Dr Carney: To be honest, it is not a question I am in a position to give a full answer to because it is situation-specific to both the state of the UK economy and the state of the UK financial system and I am not in the MPC. I am not looking at this on a daily basis. I have not done the analysis.

Q93 Mr Newmark: You must have done some analysis. This is a major economy in the world. You are looking at the Bank of England and this has been their whole raison d’etre. Their whole main driver is to effectively keep buying up gilts, printing money. You are coming in, and I am optimistic of you coming in. I have looked forward to you coming in because, as I said, I do not necessarily think that QE has been the answer to all our solutions when we do want growth. You have come up with, I think, some thoughtful alternatives in targeting growth. I am asking you a very simple question. Having looked at QE not just in this country but the US and the eurozone and Japan and elsewhere, do you think that printing more money today is going to have a significant or even a beneficial, marginal, positive impact on what you want to achieve and what I want to achieve, which is growth?

Dr Carney: The work that we have done at the Bank of Canada suggests that the returns to QE have declined, particularly in the United States, as the scale of the programme has increased. To some extent that is natural when you think about the main channel, in our view, of quantitative easing is through a portfolio balance effect; a shifting of investors from the risk-free asset into assets that start to have a risk. That is part of the logic, as I am sure you are aware, of why the Federal Reserve is concentrating increasingly on the mortgage market and then, potentially, one would extend that more broadly if that were necessary into riskier and riskier-

Mr Newmark: Do you think that is a good idea?

Dr Carney: I think that it is logical. Yes.

Q94 Mr Newmark: You think it is a good idea? It leads on to my next question, which is, when thinking about asset purchasers, should we be looking in a broader way including wrapping up SME loans and so on?

Dr Carney: Yes. I will take a step back. Obviously the responsibility of the MPC and what they are doing is to identify, first, whether additional stimulus is required-that is a discrete judgment-and then, if so, how and then to concentrate on those instruments that are going to provide the best stimulus with the least costs. I want to stress again that, with all unconventional policies, there are costs associated with those policies. With QE there are potential issues around market functioning. There are broader political economy questions that this Committee is looking into.

There are issues relating to QE, but the way I would answer the question is that in the current environment it seems that the efforts of the Bank, in conjunction with the FSA and the Treasury, to concentrate on ensuring that bank lending and particularly bank lending ultimately into the SME-our view, I guess, is the SME channel most effectively targeted and improved, through the Banks, both through the Funding for Lending Scheme and ensuring that the capitalisation of those institutions, is transparently adequate.

Q95 Mr Newmark: Do you think the Government is in a position to make a judgment on SME lending as opposed to credit officers in individual banks? Effectively what you are saying or what I know is out there is that the Banks, because of Basel III and shoring up their liquidity and their balance sheets and so on, have that pressure, but we are also, as politicians, saying we have to get the lending out to small and medium-sized businesses. Maybe a way of doing that is having the Government stand sort of behind that somehow. Is that a good idea or not?

Dr Carney: In the manner in which you expressed it I would say a superior idea is the construct of Funding for Lending because what happens there is that first off it is neutral. It is the decision of the Bank whether or not to extend the marginal loan. It is an advantage in terms of the funding cost obviously if it does extend it and it is also advantaged in terms of capital relief, but there is no direction to lend and there is certainly no direction to which SME to lend to. What has been established is a neutrality across lending to an SME or another corporate or establishing a mortgage under that scheme. To go back, you started with packaging SME loans and providing that.

Mr Newmark: Yes, and the same thing with mortgages; so looking at other asset purchases.

Dr Carney: Asset-backed security; CLO, CDO, based on SME lending.

Mr Newmark: Which were a great success, by the way, weren’t they?

Dr Carney: There were very few elements of that market that were successful.

Mr Newmark: I was being facetious.

Dr Carney: That is one potential channel. I guess what I am suggesting to you is that a more direct and immediate channel would be to go through the Bank system; not direct lending, but through Funding for Lending effectively.

Q96 Mr Newmark: When you come in, just to be clear, you are not going to examine again the idea of buying other assets because you are happy with that or not?

Dr Carney: No. I think it is the responsibility of the institution to continue to continually, while we are in this circumstance, evaluate the different options, which would necessarily include buying other assets and particularly if it is the current judgment of the MPC that additional QE-and I am using the quote that you gave me-has a marginal impact on growth. I hope that is correct. I do not want to be misquoting them.

Mr Newmark: No, that is correct.

Dr Carney: If the judgment of the MPC were to be that additional stimulus were needed then obviously different channels would have to be used. Funding for Lending is a channel that has started. There are some early encouraging signs. We would have to see where it is when I arrive but if it were required, one would look at that but also look at a different range of alternatives.

Q97 Mr Newmark: I appreciate time is ticking on. My final question is that there have been some good benefits of QE. It has kept interest rates down low. It has meant that constituents of ours who are mortgage holders have had relatively low mortgages. It has mean that corporations have been able to borrow hopefully a little less expensively than perhaps if there had not been any QE programme at all, but the people who have paid the price are savers out there, particularly pensioners. Many of us on this Committee have many constituents who have saved up their whole lives. They are earning 0.5% or less on whatever savings they may have, yet the inflation rate is 3% and on a basket of goods for pensioners’ goods is probably closer to 6% or 7%. Do you think that is a price worth paying?

Dr Carney: For the stimulus that is provided to date by quantitative easing?

Mr Newmark: Yes.

Dr Carney: I absolutely recognise that there are broader distributional consequences from quantitative easing. Pensioners in this country and pensioners in Canada are in difficult circumstances because of the lower rates of interest. I would underscore that pensioners in Canada are in difficult circumstances and there has been no QE in Canada, and in fact the differential between the ten year in sterling and Canadian is 10-15 basis points, with the Canadian ten year slightly inside sterling the last time I checked. There is a broad global reduction in interest rates, which is a product of the global economic outlook. It also is the product of global quantitative easing, but it is not just the product of global quantitative easing in the United Kingdom.

I recognise as well, as I am sure you would, that the policy has improved-and it is hard to be exact on this-the valuation of other assets, which, depending on whether one is about to become a pensioner or whether one is an existing pensioner or whether you are running a defined benefit plan in surplus or deficit, accrues more or less to your benefit. Obviously if you are on a fixed pension or you have a fixed savings and you are reliant on gilt rates for your income for consumption then this is an extremely difficult circumstance, but the responsibility of the Bank is the broad economy, and we have to keep that focus.

Q98 Andrea Leadsom: Dr Carney, I would like to talk to you briefly about the eurozone. Obviously the next five years, we all hope, will see resolution of the eurozone crisis. You have said, "The bank will need to support the Government as it engages in efforts of the euro area to re-found the European Monetary Union", and yet you, like many non-Europeans, may feel that Britain should just shut up and get stuck in there and not try to defend her own national interests against the interests of the whole euro area. Can you reassure us that in your determination as the Governor to support the Government as it engages your interest will be in promoting British national interests and not just a resolution to the whole picture?

Dr Carney: Absolutely, I can reassure you on that and I will expand. I think that it is in British interests that European Monetary Union works for the economies that are in European Monetary Union. As you are well aware, this is Britain’s largest trading partner and will be for the foreseeable future, certainly beyond the end of my term. There are enormous challenges in Europe that remain in order to properly re-found European Monetary Union and ensure that the economy of Britain’s largest trading partner returns to sustainable and balanced growth.

I can tell you further from my experience at, to a lesser extent, the G20 but certainly my experience at the G7 that countries like Canada and the United Kingdom have been actively engaged in trying to help devise solutions, whether they are monetary, financial restructuring or institutional solutions-I will get to the last one, which is probably the most important, for your broader question-to help Europe help itself. That has been a difficult and intensive process over the last several years but it has been an important process to help ensure that the euro crisis was not worse for all of us. Obviously, if there is an external economy that has borne the brunt of the euro crisis, it has been the UK economy.

We need to keep that engagement and I would anticipate, moving from Governor of the Bank of Canada to Governor of the Bank of England, that that level of engagement central bank to central bank in terms of-I think we are moving from the acute phase of the crisis to a more chronic phase, but the crisis management element that is there would continue and it is absolutely in Britain’s interest. When we get to the institutional side and the institutional development of European Monetary Union, they are very clear interests of Britain and I would support, as does the Government, the development of a true banking union in Europe. It is essential that the position of the British financial system, in particular the City of London, is adequately safeguarded and recognised in the structure of that banking union, and I am encouraged by the agreement that was struck in December with double majority voting around the single supervisor mechanism. I think it is a responsibility of the Bank of England and our role, and the PRA within the Bank of England, to be fully engaged in the interaction with the ECB and of course with the EBA, the European Banking Authority, to ensure that we are very clearly at the table; constructively engaged but very clearly representing the interests of the "outs" in the nomenclature of Europe. I fully intend to do that. I come to this, I would say one other thing, with relationships with obviously Mario Draghi, Mr Barnier and others in Europe that I will deploy, but I will deploy on behalf of the Bank of England and broader British interests.

Chair: A very quick question and then a very quick reply, if that is possible, and then I will bring in Andy Love, and we will wind up this part of the session.

Q99 Andrea Leadsom: Dr Carney, you suggested an increase in German wages and private demand in inflation would ease the transition from a balance of payments crisis within the currency area. Bearing in mind the, shall we say, slight reluctance on the part of European politicians to be offered advice by British politicians, do you think it is appropriate and do you intend to continue to offer this extremely helpful advice to the Germans?

Dr Carney: I am not sure it was that welcome coming from the Bank of Canada. Yes, I do because I do think that that is an essential piece of the rebalancing puzzle.

Chair: Very helpful answer indeed, not least that it is brief.

Q100 Mr Love: Welcome, Dr Carney. I have been struck in the responses you have given to various questions that you seem to be very committed to the flexible inflation targeting, with an emphasis on the flexible. Was it your intention to be absolutely clear about that? In the debate that we have talked about at the Committee this morning that is going on about monetary policy would you be speaking up on behalf of flexible inflation targeting?

Dr Carney: Yes. It was my intention to be clear about that and hopefully I have been. If there is an ongoing discussion of this, as appropriate, I would contribute, but recognise my current position in Canada and, to some extent, the best contributions I can give is the Canadian experience and observations on what the Federal Reserve is doing and how that might be applicable here.

Q101 Mr Love: Of course with this flexibility, around the word "flexible", and contrary to what Mr Mann said earlier, the current Governor of the Bank of England has expressed his view of the flexibility in terms of setting the policy framework to take into account output and employment issues so that, for example, we have not had inflation at 2% for some considerable time. That is quite a latitude. Would you see there being an increase of that latitude that the current Governor has undertaken in relation to hitting the target two years out?

Dr Carney: Not necessarily, is the short answer. There could be a different way of speaking about it or formulating what is effectively a very similar policy, by which I mean the current Governor speaking in terms of taking into account output and employment, that is another way of taking into account the timeline over which there is a return. Maybe I will stop there and give you the follow up.

Q102 Mr Love: All I wanted to do was to emphasise that when people have asked why they did not change the Bank rate or they did not change the position in relation to quantitative easing he would say that while their remit is to get the inflation target to 2% two years out he had to take into account other factors and they were important, and that gave him the flexibility. I just wondered whether that would continue and perhaps you would seek even greater flexibility recognising our economic circumstances.

Dr Carney: It is similar motivations for the flexibility, you are absolutely right. I think the MPC, in hindsight, has exercised considerable flexibility. The question is whether there is more flexibility and it is a question of circumstance, and circumstance only once I arrive, whether the economic circumstance is warranted but whether it would exercise more flexibility transparently ex ante, in advance, an expectation that it would take longer to return as opposed to a longer return.

Q103 Mr Love: The Monetary Policy Committee appears to be concerned about the level of inflation at the current time and the fact that we have not brought it back to 2% and that seems to be the rationale for not increasing quantitative easing at the present time. What do you see? You have mentioned several times during contributions the exceptional nature of economic circumstances. How exceptional do they need to be before there will be positive action to boost the economy?

Dr Carney: Again, I am slightly handcuffed because I have not seen what the MPC has said, but I made the point that in some cases if there is a deterioration in the output employment trade-off, in other words-I will do a hypothetical because I have not seen what they said-but if the view is that inflation is going to return to target later than originally expected and there is no reduction in stimulus that is exercising flexibility as well that should not be underplayed. Just because there is not positive action of additional stimulus does not mean there is not considerable stimulus that is being provided and, in the context, if there were a deterioration in the return to target then that is stimulative.

Q104 Mr Love: If a question can be quick I hope the answer will be quick, of course. Lord Turner, chairman of the FSA, earlier this week made a speech where he suggested injecting money directly into the economy. When pressed on that he said it was because of the current economic circumstances; we are bumping along the bottom. We have talked generally about escape velocities. He believes that the circumstances are good enough to suggest that. I am not suggesting he would go that far, but is there some recognition of the concerns that he is expressing about where an economy is at the present time, and what we need to do in monetary policy terms to move it out of that position?

Dr Carney: Let me say two things: first, with respect to so-called helicopter money, which was referred to there, I will be absolutely clear, I cannot envisage a circumstance where I would support that as a strategy; and I would say, secondly, that there is considerable policy flexibility that remains within the existing tools of the Bank of England if additional stimulus were required, and we have talked about some of them today.

But to your last point, which is that the circumstance of the economy moving sideways, considerable slack-still subject to considerable debate the degree of slack-but clearly slack in the labour market in the economy. That circumstance within the context of price stability over the medium term, that is a circumstance absolutely given that there are options that exist for stimulus. The MPC will, I am sure, continue to evaluate whether it is appropriate to use those. But that is grounded within the overall framework.

Chair: We are back to high monetary theology again where we have been for quite a bit of time this morning so far. We should take a break now. You have had quite a testing time so far but you certainly demonstrated that you know how to handle committees like this and you have also passed the three simple awkward question test put to you early on, one that often trips up candidates in pre-commencement hearings before Congress. You look a fit man so why do we not just have a five break and resume, and then we will do financial policy.

Dr Carney: Okay, thank you.

The Committee suspended for five minutes.

Q105 Chair: Thank you very much for putting up with the amount of this session. We do not normally take this long each time the Governor comes before us. We are now going to take a look at financial policy and the new responsibilities the Bank has acquired as a result of the legislation, which will be further amended as a consequence of the Banking Bill that is currently before Parliament.

Stewart Hosie: Dr Carney, in January of this year, the group of Governors and Heads of Supervision announced significant changes to the Basel III liquidity rules that gave the banks an additional four years and extended or provided for a wider use of assets as part of the liquidity buffers. How much of that was a pragmatic decision in the light of prevailing economic conditions, and how much of that should worry us, in terms of it being perceived as a watering down of the tougher new rules?

Dr Carney: I participated in that meeting, which was chaired by Governor King, as you may know, and wholeheartedly supported the new agreement. I will give you a bit of context, which is that the original agreement, we had spent a lot of time on the Basel III capital agreement. We, Governors and Heads of Supervision, had spent a lot less time on the original so-called liquidity-coverage ratio, and we had explicitly signalled that we would be reviewing that LCR over the course of the subsequent year when the original Basel thing was put in place. We made a series of adjustments at that meeting and they all make sense. The spirit of that meeting was to get the right ratio, the LCR, the liquidity-coverage ratio, so the Banks manage their short term liquidity appropriately, have appropriate liquidity buffers. We wanted to get the right requirement there, and that is why we have a medium term phase-in. That phase-in, as you know, does not just start in four years, it starts in a couple of years, and then starts from a 60%, ultimately to 100% of the new LCR. So it starts in 2015 and dovetails with the Basel capital regime.

The changes that were made between the two are all, in our opinion, very sensible changes. The definition of what is a liquid asset was broadened to be measured on the basis of liquidity, actual, demonstrable and demonstrated liquidity as opposed to credit-worthiness. Originally, effectively, we said that the only things that were liquid assets were government bonds. Obviously, just look at any of the aspects of the recent experience in peripheral Europe and see that there were a number of government bonds which were anything but liquid, but they would have counted under the old LCR. Whereas equities, listed equities in the main indices, which, one might not like the price on a given day, but they are always liquid, you can always buy or sell those securities so, with an appropriate haircut, should be in the numerator of the LCR. They were brought in, as one example. We also brought in a broader range of corporate bonds and asset-backed securities. All sensible things measured on true liquidity, so the resources available to meet short-term obligations of the banks were expanded.

But equally importantly, on the basis of evidence, on the basis of experience during the worst financial crisis since the great depression, the assumptions around draw-downs from bank lines, so whether, if somebody uses a contingent bank line, they ask for the actual money, which is a call on the Bank’s short-term liquidity. The assumptions around those and run-off rates on deposits, whether or not corporate or individual depositors take money out of banks, again, something that we had great experience with, unfortunately, during the financial crisis, so we can see what the draw-downs and the run-off rates were. The original specifications were wildly conservative, relative to experience and they were adjusted back to very conservative, relative to experience.

Q106 Stewart Hosie: The central banks, the Governors and the Heads of Supervision, presumably, in discussion or under pressure from the commercial banks, who were very critical of the way the liquidity buffer had been put in place, decided to take what you say are these sensible measures. I suppose the question I have is in two parts. Why was there so little focus on liquidity initially with Basel III and so much of a focus only on capital? Secondly, and this is really the key point, now this is likely to be changed, will it result in more lending from the commercial banks into the real economy, while maintaining the safety of the system?

Dr Carney: Two reasons for the relative focus on capital. First, there was a manifest deficiency in capital as a result of the crisis, in the run-up to the crisis and in the aftermath of the crisis, and it was important to address the deficiencies of the old Basel II regime, but also to ensure that banks started to move, in a phased approach, to build capital. As you are probably aware, there was never a liquidity standard in the old Basel II or the old Basel I. So liquidity was new. This was a new standard. We started to put it in place and because it was new, there needed to be an observation period and to make adjustments as necessary to that liquidity standard. The second reason why there was less focus on liquidity than capital is because, in an environment where liquidity was strained in the major economies, and now this is largely an issue in Europe as opposed to the other major economies, but in an environment when liquidity is strained, this is not a minimum. The liquidity standards are buffers, not minima.

So the point is, in a strained environment banks should be able to draw on these buffers and as necessary, central banks provide backstop liquidity through a variety of facilities. All of those aspects argued for immediate focus on capital; take your time to get liquidity right; adjust liquidity, because it is new, as appropriate. I think it has been appropriately adjusted, and I just underscore, to go back to the lending point, is that the behaviour in some markets-those markets that are liquidity strained-was that there was an argument from the banks, to which I do not fully subscribe, quite frankly, but there was an argument from the banks that the present liquidity standard was exacerbating pressure on funding liquidity for those institutions, and that was restricting lending to the real economy. In the end, the far more important thing, particularly in the European context, is concerns about adequate capitalisation of those institutions and that is what has been gradually addressed and could be, more aggressively.

Q107 Stewart Hosie: Just one final small question, on this issue about using buffers, liquidity buffers or capital buffers, when there is a strain on the Bank: do you think that is understood enough or do you think that even within banks, some people think these are de minimis levels, rather than contingent funds to be used when the circumstances demand?

Dr Carney: It is the right question. I do not think it is widely enough appreciated, either within the institutions or within the broader market, that these are buffers that are meant to be drawn upon, and that gets to a question of, what is the interaction between these liquidity standard and backstop liquidity of central banks.

Chair: On that point, the UK has taken a couple of policy initiatives in order to try to ease the liquidity positions of banks, in order to encourage them to lend. Have they done enough to eliminate the stigma attached to going to the discount window?

Dr Carney: If I can take that in two parts, outside looking in, what has been most effective policy measures to encourage lending have been the ECTR and the funding for lending scheme, both encouraging, but still early days. Obviously, that is potentially an iterative process, where learnings would result in further adjustment. I do not know, and this is a decision for the FPC and MPC, maybe. With respect, though, to stigma, your direct question on stigma and the discount window, it is extremely difficult to eliminate stigma related to discount window borrowings. I know this is an issue that has been raised in the context of the Winters Review, for example.

Chair: And in this Committee.

Dr Carney: And in this Committee. My sense would be it is an issue that is not yet solved. My further sense is that part of what was agreed in Basel-these questions are very much related, as you appreciate-was that there will be work through the Basel Committee on the interaction of central bank facilities and the LCR over the course of this year and we, the Central Banks, would have to come to an agreement, let us say this time next year, about the appropriate types of facilities that could interact. The thinking in broad terms is that institutions could preposition collateral with the Central Bank, have more of a standing liquidity facility, prepositioned collateral, and then the pricing would be such that it is more expensive than the market in normal times but could be drawn against in stress times and that this would favourably count for some of the liquidity requirements that institutions would have to hold and by doing that can create a dynamic that provides a more continuous access to central bank liquidity that-maybe to go to your point-could address the stigma issue. But this is a very difficult issue. That may be one part of the answer, but my view would be it is ongoing work for all central banks.

Chair: Tough nut to crack, not yet cracked?

Dr Carney: Yes.

Chair: Definitely high on your agenda, is that what I am hearing?

Dr Carney: High on the agenda, yes, because of the interaction, yes.

Q108 John Mann: The high-street small businesses and consumers in this country have higher interest rates for borrowing but lower interest rates for savings than, for example, Germany, France, Ireland, Greece. Is this an issue for you, and if not, why not? If it is, what are you going to do about it?

Dr Carney: I am not sure about Greece in terms of superior borrowing and saving dynamics, but certainly Germany is the case. Yes, it is absolutely an issue. The spreads to which you are referring are a cause of concern. It is an inefficiency at the core of the economy. It is a brake or at a minimum it restrains the transmission of monetary policy, which is intending to be very accommodative to support the recovery. There is a sense of unfairness, I am sure, which you hear from your constituents in terms of ability to borrow as a smaller business, being more constrained than the ability of large businesses that can go to a very wide open at present capital market and borrow on very favourable terms.

I think there are a couple of challenges that explain it, both of which are being addressed or the intent of current policy of the Bank of England is to address them. First is to ensure that the core of the British financial system, the banks, the core banks at the heart of the British financial system, are transparently and adequately capitalised. There have been some questions around the adequacy of their capitalisation. The FPC has raised the issue. It is in the interests of everyone that there is a speedy resolution or conclusion to that review, and that it is transparent and clear that the capitalisation is adequate of those institutions; the first point.

The second is what the Chairman just touched on, which is funding for lending, which has a dual benefit. One is a direct benefit, which is if drawn upon, as you know, lowering the funding costs for those institutions, which should be in a competitive environment passed on. It is not fully passed on as yet, as you know. But the other benefit of funding for lending is its presence has encouraged a reduction, in my opinion and I think in the opinion of the Bank, in funding spreads in the market for banks so, therefore, getting the market multiplier from that.

Q109 John Mann: That is, if I may say so respectfully, a partial answer because it does not answer the difference and it is the case with those countries I quoted. It is their own statistics as verified at an international level. We are in a worse position on both borrowing and on saving. Another scenario would be that it is because we do not have any real competition and that that has led to a culture and a business model in our banks that is anti-competitive, anti-consumer, anti-small business. Do you think that the two state-owned or primarily state-owned banks would be better if they are broken up and, if so, do you intend to press for that?

Dr Carney: With respect to the direct question, I do not know is the honest answer. I have not looked at the particular circumstances of either of those two institutions and the relative merits, economies of scale, scope that would be necessary. The valuation potentially should be achieved in the ultimate interests of the taxpayer; the first point.

The second point is that without question competition and measures to improve competition in financial services, including in this country, are extremely important. There are some measures I am aware that this Committee has focused on that have been taken up this week by the Chancellor and that would appear to be welcome. There are other measures that can, I am sure, be taken. From the Bank of England’s perspective, from our perspective, we have to ensure that the facilities that we provide, whether it is in liquidity, funding for lending, as examples, are available to as wide a range of institutions as possible so that we are not skewing the competitive landscape in any way, shape or form.

With 39, I believe, institutions signed up for funding for lending I think that is the case there. There is also consideration that is given to the structure of the financial system and, if you will, ultimately not purely for competitive reasons but it has this impact in some of the deliberations that the MPC has made on how low the Bank rate can go because of the impact on building societies and interest margins in building societies. It therefore by extension would have a competitive impact. But I guess I would make the point respecting the core mandates of the institution, so we do these things to ensure that we are not hindering and in doing so with a level playing field promoting competition in that regard. The promotion of competition in financial services is more primary responsibility, as you know, for the FCA than it is for the Bank of England and we have to ensure that we discharge against our given remits.

Q110 John Mann: One of my colleagues might want to come back to that in a minute, but I would just like to move on to a separate area. If we take the 50 largest banks in the world, then every single one of them has been embroiled in the last year or two in criminal fraud without exception. The consumers and the general public are rather cynical about banking. I am quite sure what their questions to you would be, which is what are you going to do about all these greedy bankers. But I wanted to angle in on a slightly different angle, which is the US regulators have been far quicker, far more brutal. They have fined more. They have been happier to imprison more than we have in this country. We have seen that even this week with LIBOR in terms of the fines levied. What direction do you intend to take banking regulation in this country? More towards that American relative robustness or more towards the rather softer, gentler and significantly slower approach that we have had traditionally and in recent years in this country?

Dr Carney: Well, the first point I would make is that the behaviour that has been exhibited and confirmed this week, particularly, for example, around LIBOR, is reprehensible and should be prosecuted to the full extent of the law in the various jurisdictions that are affected. That is clear. I think we would all agree on that. The responsibility to do that does not rest with the Bank of England, either in its current guise or its future guise. Issues of conduct, apart from criminal conduct, as you know will reside with the FCA.

That said, in my experience in prudential supervision as part of the Inter Agency Committee in Canada that oversees all the banks and insurers, the patterns of behaviour, far less severe than what has been revealed with these institutions, but patterns of behaviour and an absence of control, proper control environments, weaknesses in culture, are material for the prudential supervision of those institutions. They are issues that have consequences in terms of how much capital-apart from what should be done on the conduct and the criminal side, the justice side, they have consequences in terms of what types of activities those institutions should be engaged in, the capital they need to carry, consequences for remuneration, other aspects. My point is of prudential-

Q111 John Mann: The Canadian banks are embroiled with criminality as well, but you are copping out with your answer. Are you not going to take, with this incredible level of power that this job now has as you come into it, proper responsibility for ensuring that this industry is treated as every other industry would be when there is such a level of criminality in all the leading players?

Dr Carney: Two things; as Governor of the Bank of Canada I take issue with your description of the Canadian banks. That is not to say that there are not-the word "embroiled" we will have to disagree on, and I would know given my role and given the oversight that we have.

The second thing is that it is not a cop-out to ensure that there are clear lines of responsibility for conduct in the financial services industry that runs through the FCA. My point, and I believe the policy consistent with the approach of the PRA, is that this type of behaviour even at a much less serious level-and this is at a very serious level, the issues that have been revealed in recent weeks and months-has consequences. It has consequences for prudential supervision. It has consequences for capital. It has consequences for activity. It has consequences for compensation. It has consequences for whether individuals are judged to be fit and proper. That is how one conducts effective prudential supervision and taking into account these type of issues. If I may, in parallel there are conduct consequences through the FCA and if it rises to a seriousness obviously criminal prosecution.

Q112 Chair: To pick up John Mann’s question or an aspect of it in another way, by pointing out that the PRA if it has an enforcement issue has to trot along to the FCA to get any action undertaken do you think that is a sensible arrangement? Maybe that is too tough a question before you even come in, but do you think that at first blush there is a curiosity about having the prudential supervisor have to obtain the cooperation of the conduct supervisor in order to obtain enforcement action? These two things were in the same body.

Dr Carney: Yes, I understand. It entirely depends. I do not think I am qualified until I see it in action.

Chair: We will let you take a bye on that one for the time being.

Dr Carney: If I may, yes.

Chair: But it is certainly an issue that a number of us on the Banking Commission in another context have been looking at.

Q113 Andrea Leadsom: I think the Chairman is desperate for his lunch because he is not letting us question very much, so I am going to lead my witness slightly here. You have gone on the record as saying that you do not think concentration necessarily led to the financial crisis. But now coming into the UK you clearly accept that both the UK and Canada have concentrated banking systems. How important is new competition, specifically getting new challenge banks in? How far are you prepared to go with the PRA in ensuring that they do offer new banking licences to new challenger banks? Finally, a very specific question. Have you looked at the merits of bank account number portability as a means to achieve both resolution, in the event of a failure, but also as a means to allow new challenger banks direct access to the payments infrastructure that would give them the competitive level playing field that they are looking for?

Dr Carney: They are all excellent questions. At the heart of the PRA approach is it can be pro-competitive, by which I mean that one of the things that Andrew Bailey and the PRA have stressed from the start is that the intention was not to operate a zero failure regime but the intention is to ensure that failures can be dealt with effectively and efficiently without wider systemic consequences. That ease of exit promotes ease of entry because the knowledge that one does not have to belt, braces, et cetera, a new entrant because of the fear of what the consequences could be if that entrant fails, should adjust the barriers to entry or the level of the entry requirements that should promote entry and competition.

I agree that it is important. As you know, it is not the principal objective of the PRA, it is not the principal objective of the Bank but by designing a system in this way, and truly designing a system in this way, and all recognising that the failure of a bank is not a failure of the system it is a failure of the Bank and the individuals associated with that. That is incredibly important. On the issue of bank account portability, I would say that I followed the debate here and was intrigued by it. I support the direction but I would defer to you and Andy Haldane and others who are far more expert in the issue than I.

Andrea Leadsom: But you are not closed minded to it.

Dr Carney: Given what I know, I am very open-minded to it but as I say, I am not the expert on it.

Q114 Chair: Would you also have an open mind, again, on a related question with respect to PRA responsibilities, that they acquire more than a mere duty to have regard to competition but also a duty subject to the overriding task of maintaining financial stability to promote competition?

Dr Carney: I am afraid my mind is a little more closed on that one than open in that my reading of the have regard to responsibility, which may be wrong, is it strikes the right balance given the principal responsibility of the organisation. While I believe quite strongly in the value of competition and I do not view that vibrant competition is inconsistent with financial stability, I do think that it is important that the various policy arms of the Bank, to the maximum extent possible, have very clear remits in principal responsibility so I would be a little hesitant on further reinforcing that.

Chair: I am fine with hesitancy, it is the closed mind I was a bit jumpy about.

Dr Carney: I said more closed, yes.

Chair: Okay, a bit more closed. We have had extensive experience of have regards and they have turned out to be disregards so I think something needs to be done.

Q115 Mr Love: Can I return to recovery and resolution plans? You were quoted in the press last week as saying, "Regulators around the world are still some way from solving the problem of how to deal with the failure of a giant global bank. Should we be worried?

Dr Carney: You should retain your focus on the issue, yes, as we have to. The intention or what will happen at the level of the Financial Stability Board is that for all the 28 global systemically important banks, their recovery resolution plans are due to be submitted or completed by this summer. There is going to be a review of each one by a college, chaired effectively by me as Chair of the Financial Stability Board, and there is going to be a broader peer review of the effectiveness of the resolution approaches in the relevant jurisdictions. I would expect that we would find potentially a wide variance in the effectiveness of these plans, partly because of a variance in the legislative authorities that officials have, partly because of variance in the preparation of different institutions. The jurisdictions that are the most advanced, in my reading, are the United States and the United Kingdom, particularly because there has been work led by Paul Tucker and Adair Turner on cross-border resolution, cross-border agreements.

There has been substantial advancement there but there is more work to be done, as they would attest. This is something that the right way to address it, speaking in my role at the Financial Stability Board, is with very clear transparency about it so that once these plans are in place, they are assessed. The deficiencies are brought to light publicly. They are also brought to the highest level of the G20 to take an assessment of what else needs to be done in order to ensure that the objective of ending too big to fail for individual institutions is achieved, but more needs to be done.

Q116 Mr Love: Some banks have missed the end of the 2012 deadline, I think you have now moved it.

Dr Carney: Some banks have, yes.

Mr Love: You have now moved it on developing the living wills?

Dr Carney: That is correct.

Q117 Mr Love: Should we be concerned about the deadline? Will they reach the new deadline? Is there a significant problem underlying these delays?

Dr Carney: If they miss the new deadline it will be brought to the attention of their head of Government, head of State at the G20 Summit in St Petersburg as being one of the elements of my report to them so it is inadvisable to miss the deadline.

Q118 Mr Love: Which banks are we talking about here amongst the UK domiciled?

Dr Carney: This is not an issue in the UK.

Q119 Mr Love: It is not an issue for the UK. That is one less problem, I am sure. Let me ask you a final question because we are strapped for time. Let me ask you a more general question. We are putting a lot of faith in resolution and recovery regimes. Can we achieve what we have set out to do in terms of being able to resolve a highly complex internationally based bank in the way that you are discussing at the present time?

Dr Carney: Yes. I think the imperative is to achieve it but equally the responsibility of the public sector is twofold. One, do not over represent what has been achieved, so be transparent about how much progress we have made and where we are coming short. I believe it is achievable, to be absolutely clear, but if events prove otherwise, to be absolutely clear about that because then other decisions might be taken in a broader political sense.

Q120 Mr Love: But at the present time, and you are in the best position to know, you are still confident that we can achieve this?

Dr Carney: I am confident that we are making substantial progress and that it remains achievable but there is significant work still to be done even in the most advanced jurisdictions, yes. Yes, it is still achievable.

Q121 Mr Love: What are the implications of that for a committee? Where should we be looking at to ensure that the UK authorities are playing a positive role in this? You have mentioned Paul Tucker and others who are involved in this, are there other things that we need to do as a UK authority to help ensure that this progresses?

Dr Carney: I will put the responsibility on the Bank because ultimately this comes back into the Bank and through the resolution responsibilities to report what else needs to be done and what is outside the power of the Bank to ensure. For example, one aspect that in a so-called, to get slightly technical, single point of entry resolution is to ensure that there is a proper corporate structure and that high enough up the corporate structure, ideally at a holding company, that there is sufficient bail-in-able debt at that holding company. We need to ensure that that is achievable. What I would say, specifically from a UK context, what is incredibly relevant here is the EU resolution directive that is working its way through, which from an FSB perspective is quite encouraging as an approach, there is a lot to be recommended in the directive as it currently stands. Obviously that is relevant from setting the framework for the UK regime so the stock-take comes as that comes through. The stock-take is with that and then also informed particularly by discussions with the US authorities that are currently progressing.

Q122 Mr Ruffley: Dr Carney, the FPC, in relation to higher capital requirements that are in prospect, have said that the extra capital required should be raised in ways that do not hinder lending to the real economy. Is it not the case that banks are not going to be doing it by going out into the markets and raising capital that way but rather they are shrinking their balance sheets with commensurate negative impact on SME lending, lending to the small businesses, the lifeblood of many of our constituencies and indeed the British economy? Is that not what is happening?

Dr Carney: The spirit of the FPC recommendation is exactly that that should not be what happens and that the adjustment in the capital ratios of the institutions is made through capital-raising. There are a variety of forms of capital-raising. It can be done through higher retained earnings, which can be got through a variety of mechanisms, asset dispositions, restructuring and other aspects, or shrinking of ex-UK balance sheets as opposed to British balance sheets. That is the spirit so I will leave it at that.

Q123 Mr Ruffley: Can you just say a bit more about what the alternatives are to shrinking the balance sheet because anecdotally, that is what most people perceive because banks are not going out into the capital markets to raise money that way in a significant way, are they?

Dr Carney: No, they are not, and-

Q124 Mr Ruffley: What are the alternatives to that if we are not to have shrinking balance sheets without a commensurate hit to the SME lending sector?

Dr Carney: The alternatives are to shrink other aspects of the balance sheet outside of the country. Some alternatives could be accretive dispositions of certain lines of businesses or release capital from certain lines of businesses would be-

Mr Ruffley: Asset disposals.

Dr Carney: Yes, which could be redeployed. To be absolutely clear, I am talking in the highest of generalities, not about specific institutions. I do not want to be misinterpreted as giving direction to specific institutions.

Q125 Mr Ruffley: But do you think you have any powers to ensure that these alternatives you have listed are utilised rather than the shrinking of the balance sheet?

Dr Carney: I did not catch the first part of the question.

Mr Ruffley: Do you think you will have the power as Governor of the Bank of England to ensure that banks are encouraged not to shrink their balance sheets and to deploy the techniques you have listed for meeting their higher capital requirements?

Dr Carney: It is the responsibility of the Bank to ensure that the institutions are adequately capitalised. From the context of monetary policy and achieving the inflation target in an environment of sustainable growth, it is the responsibility to ensure that appropriate instruments are used that flow through the banking system to support output, investment, growth, and ultimately consistent with price stability in the economy. I hesitate to say on a high level that it is the responsibility of the Bank to direct the activities of private financial institutions to specific sectors or regions. There are other policy levers in Government that can be used in order to do that but I think, and I am not party to because obviously I did not participate in the FPC deliberations, but I think the direction is informed not just by the requirements of the British economy but also by an informed view of the position of the institutions themselves and what their options could be in order to enhance their capital positions.

Q126 Mr Ruffley: But it might be the case that you have to go beyond exhortation. But I just want to ask one final question that relates to the true state of banks’ balance sheets and how they account for what is on their books. Andy Haldane, among others, has commented on accounting and how it can be opaque and lack transparency. I wonder if you had any thoughts, not just in relation to British banks, but in the course of your international work about a new accounting standard, a separate accounting standard for banks so that they are more transparent and so that it is clearer what the state of their balance sheets truly are.

Dr Carney: The answer is yes, in terms of thinking about how to enhance the transparency of bank balance sheets and improve their utility for all stakeholders, from regulators to investors to their clients. What we have done internationally, is we encouraged what became a private sector group of banks but more importantly investors in banks, and including both on the debt side and on the equity side, to do an analysis of bank accounts and make a series of recommendations to enhance the transparency and disclosure of the institutions in a way that is actually useful for the users of those accounts. There is a report that came out in early November, it is called "The Enhanced Disclosure Taskforce". That report, I highly recommend it. We have welcomed it at the FSB and in Canada.

It is the intention of the supervisor to encourage our banks to adopt the report in its entirety. If I can just give one or two examples of what it does to help accomplish what you and I and everybody wants instead of 600 pages of bank disclosure that tells you nothing effectively. Disclosure that maps from what they have to disclose for accounting reasons, so the accounting balance sheet maps from that balance sheet to how they manage risk, how the bank manages risk, so are mapping from the specific assets that are disclosed on the balance sheet and in the notes to that bank’s measures of risk around those assets and how they manage them, where their tolerances are, and very importantly how they map, from the assets to how they make money, their profit and loss position and where the concentration of earnings are in the actual institution.

That is one initiative that we would like to see adopted in Canada. I would recommend it here as well and I would note that some of the largest institutions in the UK were very much behind this initiative. The other things we are looking at internationally are encouraging the major standard setters to get a converged-first a standard but the same standard on expected loss provisioning, so when banks make loans that they do take provisions for the expected loss and that that adjusts over time. The art here is to ensure that it is a faithful representation of expected loss, it is not a built-in hidden reserve that then is drawn upon over time. The IFRS and the American FASB are working on that. The last thing that we are looking at, amongst other things but the last one I will mention, is something that is an initiative of the Bank of England and the FSA, which is an approach that looks at prudent valuation of so-called level 3 assets.

These are assets for which there is no market and are valued on the basis of models, internal models. The idea, which is more complicated than this, but to simplify, is instead of taking the mid-point of a range of potential valuation outcomes that the model will give you, the Bank should value at the low-point or the tail of the range. The question is the utility of that relative to other measures that are in place. There are a number of initiatives that if fully put into place, and I would start with the Enhanced Disclosure Taskforce report, fully implementing that at the institutions. But there are a number of initiatives that can improve quite substantially the utility of bank accounts and therefore improve-not just make our jobs easier on the regulatory side but improve the discipline very much in the marketplace so that these are not just black box institutions that spit out earnings until they do not.

Mr Ruffley: As the new Governor you will be able to impose this in the UK, will you not, because you have talked about the international dimension.

Dr Carney: Yes. Working with my colleagues on the PRA Board, because again, it is not for me as the individual to impose, I would encourage the large institutions we cover to adopt at a minimum the Enhanced Disclosure Taskforce but that would be a decision that would quite naturally fall to the board if it has not been. It may be taken prior to my arrival at the Bank is the other thing I would say. But the broad initiative is absolutely right. The thrust of what you are asking about is right.

Q127 Chair: You are receptive to ideas for improvements to accounting on prudential grounds.

Dr Carney: Yes, I am although what I would say is that, and I suppose I could be convinced otherwise over time but I do start from a position where I prefer to not have two sets of accounts, a regulatory set of accounts and a public set of accounts.

Chair: We already have a couple, do we not because we already have a set for revenue purposes?

Dr Carney: Yes but we have a P & L balance sheet and cashflow, but there is a default sometimes of the accounting profession that says, "If you regulators really want certain things like expected loss, why do you not just calculate it yourself", or "if you want to adjust capital in a certain way, why do you not just do it yourself". That is very much best avoided, and the focus should be on ensuring that what is represented for accounting purposes and public reporting purposes is also what is used as the first cut for regulatory purposes.

Chair: Interestingly enough the Banking Commission, to which I referred a moment ago, took evidence yesterday from HSBC who accepted the need for this even if it meant three sets of accounts. I just put that on the table. Pat McFadden.

Dr Carney: Yes, I will just be clear, I disagree with that.

Q128 Mr McFadden: I would like to ask you about leverage ratios. We know that in the run up to the crisis over-leveraged banks were a problem. You have been involved in the Basel process that has recommended an overall leverage ratio of 33 to 1. In the UK the Vickers Commission recommended that banks hold at least 4% of capital in relation to their overall balance sheet, so a lower leverage ratio. Your soon to be predecessor, Governor King, has said he thinks it should be at least 4%. What is your view?

Dr Carney: Just to clarify what we are talking about, the specific recommendation, as I understand, from the Vickers Commission, and I have discussed this with Sir John, is that for the ring fenced bank there is, as you know, a higher primary loss absorbing capacity, various forms of capital, and the logic is that given that that has been raised in order for the leverage ratio to be an effective backstop it should similarly be raised. I agree with that logic, I think it makes sense if one is adjusting the minimum there. I understand that that is not currently in the Bill, that recommendation of the Banking Commission has not been accepted. I stand to be corrected on that but that is at least my understanding. In a world where that becomes law, obviously the Bank has to respond to that reality and respect that reality if that is a discrete decision. It puts a bigger emphasis or importance on supervision of those assets that have a relatively low risk weight under the risk weighting scheme because as you know what the leverage ratio really protects the system from is those assets that we think are low risk but in fact are not. That was very much at the heart of the crisis so the regulatory response, if that is the decision and there are lots of different factors, I recognise that leverage in building societies and other factors would be a consideration in coming up with the final determination. But to address the risk that is created there, I would think higher regulatory-supervisory, sorry, scrutiny of what are so-called low risk assets under the risk weighting approach. But obviously we await final-

Q129 Mr McFadden: Do Canadian banks have to operate with such a ratio at the moment?

Dr Carney: Canadian banks have a leverage ratio and if you ask me what is-if I could only pick one reason why Canadian banks fared as well as they did, there were multiple reasons but if I had to pick one, it was because we had a leverage ratio that saved them from doing-

Mr McFadden: What is the-

Dr Carney: The leverage ratio in Canada is calculated differently but it is a 20 to 1 leverage ratio. That in effect means that they operate at about 16 or 17 times because always when you set these minimums people operate inside them so they do not inadvertently bump up against them.

Mr McFadden: But to be clear, we are having an argument in this country about 25 or 33.

Dr Carney: Yes.

Mr McFadden: In Canada, your banks are operating at 20 to 1.

Dr Carney: Yes, but to be clear, our banks-the denominator of that 20 to 1 is a broader definition of capital than the strict common equity tier one definition so it is a bit of an apples and oranges comparison.

Q130 Mr McFadden: You mentioned bail-in and the recovery resolution directive. I will not try to draw you into the country’s European debate but of course that directive will only be helpful to us if we remain members of the European Union. It will not be much good if we are not. More generally though, how critical is a bail-in regime to ensure that the taxpayer is not on the hook in the event of future-

Dr Carney: I think it is critical. I do not think it is decisive. In other words, it does not assure that the taxpayer is not on the hook but it is essential to have a credible bail-in regime, and further, it is highly desirable to have identifiable tranches of bail-in-able debt. It does not have to be from the class of debt but identifiable tranches of bail-in-able debt in sufficient size to address historic experience of banking shocks in order to provide market discipline that will make the full power of the instrument be felt.

Mr McFadden: You are confident this will happen, then?

Dr Carney: We are moving in the right direction in a variety of jurisdictions, including Canada. The job has to be finished but significant progress is being made. At this stage I am confident and the commitment, to Mr Love’s question, is if we lose that confidence or it starts to be shaken is to come back and report it.

Q131 Mr McFadden: Can I ask you one final thing? You have been taking questions now for 3½ hours on a full range of policy issues. Thinking about those questions and the publicity that has surrounded your appointment, are you concerned that expectations of what you might be able to do may be set too high?

Dr Carney: I can only assume those who are increasing the expectations are doing it so that they can have the pleasure of knocking them down almost immediately. That has probably been accomplished by now, I would think, on the basis of this testimony. Look, it is a fair question. The point is, and I made this point in my written submission, which is that part of the measure of success is, the exit is less news than the entrance, and that would be accomplished hopefully through successful execution of our responsibilities but also a bigger recognition that this is not a super Governor position or that this is a one person institution. It is a series of policy committees that do their work and make decisions and do their best to work together. It is a much broader, deeper institution that is discharging these responsibilities as opposed to an individual. As that becomes more apparent, then the individual becomes much less important.

Q132 Chair: I apologise now for having been running for 3½ hours. I have one more colleague who wants to come in and then I think we will wind up. Just on one point that Pat McFadden was touching on there, well, more than touching on, on the leverage ratio. Do you agree that the leverage ratio, it is absolutely essential you have a robust leverage ratio-

Dr Carney: Yes.

Chair: -given that the risk ratings are more or less manufactured by the banks using their own models and that they are scarcely worth the paper they are written on?

Dr Carney: I disagree with the first part. I agree that it is essential to have a leverage ratio as a backstop to a risk-based capital regime.

Chair: How do you feel about these bank models?

Dr Carney: There is a range of quality of those models and it is the responsibility of the supervisors, both within a country and across jurisdictions, to up the overall level. That is one of the reasons why the Basel Committee has just published a report last week on a standardised model-

Chair: Okay, plenty of scope on the upside.

Dr Carney: There is plenty of scope on the upside, yes, but there is plenty of value in having this system as the first test for capital-

Q133 Teresa Pearce: Thank you. We have already touched on LIBOR, so I will just ask some brief questions. When you first heard about the LIBOR scandal, were you surprised?

Dr Carney: There are two aspects of the LIBOR scandal. The dysfunction of the LIBOR market was something that, as a central bank, one could not help but be aware of and we discussed in 2008/09 in a broader policy response. Associated with that was a suspicion that was being dealt with by conduct authorities that banks were low-balling LIBOR for purposes of self-protection. The term escapes me but basically to not let on that they were having the difficulties that they were having in borrowing and not be outliers in terms of reported borrowing rates, which is definitely a conduct issue being dealt with by the conduct authorities. I have to say that the second stage, and the conduct authorities investigated and discovered it, and discovered that this was much more widespread than we would have thought. That was a surprise but on a different order of magnitude was the surprise, or the shock, I think is the right way to put it, of the manipulation; the act of manipulation and sustained manipulation of LIBOR for the purposes of direct profit of the institutions and direct profit in the sense of compensation of the individuals. That was not something that I would have expected and something we found shocking and the scale of it is disturbing.

Q134 Teresa Pearce: This is the last question. The British Banking Association, the BBA and the FSA, within their remit is for them to monitor LIBOR. Do you think they failed in that task?

Dr Carney: Historically?

Teresa Pearce: Yes.

Dr Carney: Clearly.

Q135 Chair: Perhaps you could give brisk, very short answers to these questions as well, Dr Carney. Do you support the proposals that have been put forward for a reserve power in the hands of the regulator to bolster the ring fence? Have you come across these proposals?

Dr Carney: Yes, in the sense of on a-

Chair: To separate-

Dr Carney: -on an institution by institution basis, yes, I do.

Q136 Chair: Yes. Good. Could you give your view on whether or not we should, in addition to implementing the ring fence in the UK at the start, implement a Volcker Rule-type separation for proprietary trading, taking that completely outside the ring fenced or non-ring fenced bank?

Dr Carney: No, I do not think you should overlay a Volcker Rule on top of the Vickers recommendations. I think the ring fence model is a superior model to the Volcker Rule, and I will not make this a long answer but I would be very concerned. It is extremely difficult to draw the line between market making and proprietary trading. The first cut of the US authority is to which I wrote a very long letter in my current capacity, shows how difficult that is and it would unnecessarily, amongst many other things, divert the supervisor’s attention from amongst other things, not just prudential responsibilities, but fulfilling that responsibility on ensuring that the ring fence is respected.

Chair: Dr Carney, thank you very much for giving evidence today. You have been extremely lucid and so interesting that you have kept your audience. We are very, very grateful.

Mr Love: Have you kept your rock star image?

Dr Carney: It is gone.

Chair: Which was probably your intention to start with. We have ranged very widely but of course the number of subjects, even though we range widely, have still not been covered but I suspect that there may be further opportunities. For now, thank you very much indeed.

Prepared 18th April 2013