House of Commons Treasury Committee

Bank of England November 2012 Inflation Report

Oral and written evidence

Tuesday 27 November 2012 Sir Mervyn King, Governor, Paul Fisher, Executive Director, Markets, Dr Martin Weale CBE and Dr Ben Broadbent, External Members of the Monetary Policy Committee, Bank of England

Ordered by the House of Commons to be printed 27 November 2012

HC 767 Published on 10 January 2013 by authority of the House of Commons London: The Stationery Office Limited £7.50

The Treasury Committee

The Treasury Committee is appointed by the House of Commons to examine the expenditure, administration, and policy of HM Treasury, HM Revenue and Customs and associated public bodies.

Current membership Mr Andrew Tyrie MP (Conservative, Chichester) (Chairman) Mark Garnier MP (Conservative, Wyre Forest) Stewart Hosie MP (Scottish National Party, Dundee East) Andrea Leadsom MP (Conservative, South Northamptonshire) Mr Andy Love MP (Labour, Edmonton) John Mann MP (Labour, Bassetlaw) Rt Hon Pat McFadden MP (Labour, Wolverhampton South West) Mr George Mudie MP (Labour, Leeds East) Mr Brooks Newmark MP (Conservative, Braintree) Jesse Norman MP (Conservative, Hereford and South Herefordshire) Teresa Pearce MP (Labour, Erith and Thamesmead) David Ruffley MP, (Conservative, Bury St Edmunds) John Thurso MP (Liberal Democrat, Caithness, Sutherland, and Easter Ross)

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List of witnesses

Tuesday 27 November 2012 Page

Sir Mervyn King, Governor, Paul Fisher, Executive Director, Markets, Dr Martin Weale CBE and Dr Ben Broadbent, External Members of the Monetary Policy Committee, Bank of England Ev 1

List of written evidence

1 Report to the Treasury Committee from Sir Mervyn King, Governor of the Bank of England Ev 18 2 Report to the Treasury Committee by Paul Fisher, Executive Director for Markets, Bank of England Ev 19 3 Report to the Treasury Committee by Dr Martin Weale CBE, External Member of the Monetary Policy Committee, Bank of England Ev 20

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Treasury Committee: Evidence Ev 1

Oral evidence

Taken before the Treasury Committee on Tuesday 27 November 2012

Members present: Mr Andrew Tyrie (Chair)

Mark Garnier Mr Brooks Newmark Andrea Leadsom Jesse Norman Mr Andy Love Mr David Ruffley Mr Pat McFadden John Thurso Mr George Mudie ______

Examination of Witnesses

Witnesses: Sir Mervyn King, Governor of the Bank of England, Paul Fisher, Executive Director, Markets, Bank of England, Dr Martin Weale CBE, External Member of the Monetary Policy Committee, and Dr Ben Broadbent, External Member of the Monetary Policy Committee, gave evidence.

Q1 Chair: Good morning, Governor. Q3 Chair: One of the important aspects of having a Sir Mervyn King: Good morning, Chairman. Governor with the self-confidence to speak their mind, Chair: It is not very long since we last met, although as certainly you have done before this Committee, is in another capacity when you were before the that it can bolster the credibility of policy, and Banking Commission. particularly monetary policy. You had a big hand in Sir Mervyn King: Indeed. the creation of the inflation report, which is what we Chair: I said, “You have about seven or eight months are discussing today. It is with that scrutiny and to go”. As I recall, you replied, “Seven months and transparency role in mind that we will be holding that eight days”. pre-appointment session with your successor. Could I turn to the inflation report, and take you to Sir Mervyn King: Exactly, and today it is seven page 40, where there are these charts that show your months and three days, because that was merely five view about both the degree of uncertainty in the days ago. forecast and also your view of the likely prospects? What I note from this chart—and I think you noted it Q2 Chair: We note that. Of course, there has been too in response to a question from Stephanie a development— Flanders—is that the most likely outcomes have Sir Mervyn King: There has. shifted to the left, that is have become more Chair:—in your part of the economic bailiwick in the pessimistic, and that the main reason for this is that last 24 hours, and it is a very important event—not you think the chances of a rapid recovery have more only for the British economy, it is also an important or less been taken off the table. They have diminished event for Parliament—because we are, as you know, sharply compared to your view three months ago. going to be playing a role in the scrutiny of that Why is this, Governor? appointment, as the Chancellor announced on the Sir Mervyn King: Let me first say that I am grateful Floor of the House yesterday. Before we get into the to you for drawing attention to the inflation report. hearing on the inflation report, I wondered whether This is the 80th such report in 24 years, and I think it you had anything you wanted to say about that has served its purpose very well. I am also grateful to appointment. you for focusing on these charts rather than on the Sir Mervyn King: I think anyone who holds down a central projection, because I think the essence of policy making is looking at the balance of risks, and job like mine wants very much on the day when they as you say, we have significantly lowered, in our view, leave to hand the Bank on to someone whom they the chances of growth being rapid. This is something know will carry on the good work. I am completely that I think has been building up in our minds over confident that with Mark Carney you have someone the past year. It is not a sudden change between with whom the Bank is in very good hands, as indeed August and November. Although we only made the is the role of Governor, which I am sure he will carry change in these charts in November, I think it was a out with very great distinction. I think the only other result of finally realising that, as we had debated thing I would say is that the United Kingdom should among ourselves the prospects for growth and the take pride not only in the fact that we are willing to chances of a very rapid expansion of growth—which search the world for the best candidate, as the you might have expected if this had been a normal Chancellor said yesterday, but also the fact that we cyclical downturn and then recovery—we do not think have produced a very strong shortlist. I think more that the chances of very rapid growth in 2013 and than any other country in recent years, we had a truly 2014 are very great. So we made what we thought outstanding shortlist from which the Chancellor could was a realistic change to our judgment about where select, and he selected an outstanding candidate. the balance of risks lies. cobber Pack: U PL: COE1 [E] Processed: [09-01-2013 11:41] Job: 026006 Unit: PG01 Source: /MILES/PKU/INPUT/026006/026006_o001_db_TC 27.11.12corrected.xml

Ev 2 Treasury Committee: Evidence

27 November 2012 Sir Mervyn King, Paul Fisher, Dr Martin Weale CBE and Dr Ben Broadbent

Q4 Chair: But my question to you is, what has see exactly where this decline in the world economic changed over the last three months that has resulted environment is coming from. in such a sharp shift? If you had been thinking about Sir Mervyn King: Through the year, I do think that this earlier, much earlier, it should presumably have the concerns in the euro area have grown, because the already started to appear. underlying problems have not changed at all, but the Sir Mervyn King: Yes, and I think we should have longer the problem goes on, the bigger the adjustment done it earlier and we did not. I think there are times that will ultimately be needed. The scale of the debts when you debate something and then you finally that are building up is growing and at some point that decide, “Look, our judgment really has to change will have to be dealt with. I am less optimistic about now” and we wanted to make clear that we did not the position in the emerging markets as a whole. The think that the balance of risks was appropriately report points to a number of the latest statistics, and reflected in previous inflation reports and we felt that I think my colleagues in the United States are also this was a much more accurate reflection of where the concerned about how easy it will be to sustain a committee was coming out. recovery in the United States. We will see, but I think the main point here was not about talking so much Q5 Chair: Governor, in your answer to Stephanie about the balance of risks around the central Flanders, one of the reasons you gave was persistence projection, or close to the central projection, on the of a weakness in the world environment or economy. downside. What it was saying was that it would take Is that part of this? a rather unusual combination of circumstances to see Sir Mervyn King: Yes. I think the underlying growth at 4% and above in 2013 and 2014. Therefore, economic factors that have led us to make this we felt that we had probably inadvertently given too judgment through the year—and it has built up over much weight to growth in that range of 4%-plus in that period—have been external factors. We have seen our previous report. two things. One is obviously continuing problems in the euro area. We have also seen a slowdown in the Q9 Chair: But the main explanation here is that over world economy as a whole, particularly in the the last quarter, you have not become much more emerging markets, and our colleagues in the United pessimistic. You were already quite pessimistic, but States are still very nervous about the prospects there. you hadn’t reflected it in your previous inflation I think the consequences of that, particularly weakness report. in the euro area, certainly have fed through to higher Sir Mervyn King: Yes, and I think our central funding costs for banks, which temporarily we have projection—though I do not like to give too much managed to offset with the Funding for Lending emphasis to that—apart from the short term, has not scheme. The underlying problem is one in which there changed very much. is still a great deal of adjustment to be made in the financial sector and in the economy as a whole, with Q10 Chair: You are also narrowing the fantail; you the need for rebalancing. In this sort of situation, it is are also narrowing the range of possible outcomes? very unlikely that we would expect to see a rapid Sir Mervyn King: Not possible outcomes, outcomes recovery. within the sort of 90% range. Chair: On a probability curve, yes. Q6 Chair: What you are really saying is that it was Sir Mervyn King: Yes. a mistake to have published charts with such an optimistic upside in previous quarters. Q11 Chair: That is also significant. You are saying Sir Mervyn King: Yes. Looking back, I think we wish not only that things are a bit worse, but that they are we had not done that in earlier inflation reports, but as more likely to be worse— I say, this is partly something where you think about a Sir Mervyn King: No. We deliberately did not say that problem, you debate it, and there comes a point when the chances of big downside events were bigger. We you say, “We are now pretty convinced that it doesn’t did not say that. We said that the chances of really make sense to give so much weight to it”. strong positive outcomes were lower. Chair: Yes, that is clear from chart 5.2. Q7 Chair: So this was a tipping point in your decision-making? Q12 John Thurso: Morning, Governor. Sir Mervyn King: Yes. I think so, yes. Sir Mervyn King: Good morning. John Thurso: Can I turn to the question of bank Q8 Chair: Can I just ask you a bit more about your governance and in particular pick up some of the view of the prospects for the world economy? If I look things that Mr Winters told us? One of the things he at what you say in the inflation report, it only to some said was, and I am quoting, “There appears to be some extent supports the view that you gave to Stephanie tendency within the Bank for staff to filter Flanders. It does not fully support that view. For recommendations in such a way as to maximise the example, you say there that quarterly GDP growth in likelihood that senior staff will find the China is estimated to have picked up since the recommendation palatable”. Is that something you beginning of this year, and you also point to signs of recognise and does it concern you? improvement in recent indicators in the United States. Sir Mervyn King: I do not recognise it, to be honest. I think it is difficult to argue that although things are I think that he also made very clear that there is no not better, things have become suddenly dramatically stifling of dissent in the Bank. Indeed, he went out of worse in the eurozone. So I am still a little at a loss to his way to praise what he called the intellectual cobber Pack: U PL: COE1 [O] Processed: [09-01-2013 11:41] Job: 026006 Unit: PG01 Source: /MILES/PKU/INPUT/026006/026006_o001_db_TC 27.11.12corrected.xml

Treasury Committee: Evidence Ev 3

27 November 2012 Sir Mervyn King, Paul Fisher, Dr Martin Weale CBE and Dr Ben Broadbent challenge which had been encouraged within the Q15 John Thurso: Are you rejecting out of hand the Bank, and I think that he was very clear that there was central thrust of what the Winters report said, which a great deal of discussion and debate. I think if you is that there is that hierarchical construct and that that look at the people who come before this Committee could be improved? and other parliamentary Committees, from the Sir Mervyn King: The central thrust of what Bill Monetary Policy Committee, from the Financial Winters said was about the need to think more deeply Policy Committee or from the Bank executive, there about the way in which liquidity insurance is is no shortage of people who will put their hand up provided. That is the most important point. The and say, “I don’t agree. This is my view”. Financial Policy Committee has already had one long discussion of that and will have several more before Q13 John Thurso: I think the particular point he was it finalises its reaction to the report. making was that whereas at a senior level there was In terms of the management, I would simply say this: exactly that debate—and he did make exactly those that this is an organisation that has always encouraged comments, praising that—he said that there was a debate and thrust of ideas, and you see at the level tendency among people at the lower level to prejudge where decisions are taken, which is primarily now on which views might be more palatable for discussion the Monetary Policy Committee, the Financial Policy further up, not in any negative way, but in a way of Committee and very shortly the PRA board—not the filtering. His suggestion was that if you removed the executive, the PRA board—that they will take the filter, you would get a more widespread selection of decisions on regulation and that there is a real culture views that would then be debated at the higher level. of individual accountability and willingness to speak That was, as I understood it, the point that he was up. If you look at the senior members of the Bank who trying to make. have come through in the past 20 years, the Andrew Sir Mervyn King: Let me respond to that. He made Haldanes, the Spencer Dales, the Paul Fishers, the three practical suggestions for what a Governor should Chris Salmons, the others, these are all people whom do. One is what he would do if he were Governor. I promoted and brought through in the ranks of the One is go around and talk to junior staff about what Bank, and every one of them is willing to stand up in they thought; two, to have 360° appraisal, and three, public, not just in private, and say, “I disagree with to introduce something pretty vague that he called the Governor”. That is a culture that we have tried to modern management practices. When I became foster, because from 1997 onwards, it has been behind Governor, all three of those I introduced, so I have for the success of the Monetary Policy Committee—the 10 years been going around regularly and talking to willingness to show that we are sufficiently self- small groups of junior staff and saying, “Tell me about confident to have an open debate. I think that gives your work. Tell me what you think”. On the monetary both you on this Committee and certainly the business policy side, we have a long-established tradition in community around the country real reassurance that which the heads of division all send to the Monetary ideas that they think ought to be listened to are being Policy Committee their views as to what the MPC debated and given a hearing. I think that is the most should be doing at the next meeting. So we positively important thing, and that open, intellectual culture is elicit views, and the heads of division talk to all their a real one. junior staff to form a view in their division as to what they think should happen. We have 360° appraisal, Q16 John Thurso: Paul, let me then come to you. and the executive team at the Bank was a new creation Do you recognise any of the points that Bill Winters of mine when I became Governor. So I do not think I was making? recognise those concerns. Paul Fisher: First of all, I think we have to take all I think what is the case is that once we have had a the recommendations Bill makes very seriously. He widespread debate in the Bank and discussed the has obviously heard this message from talking to ideas, there has to be a judgment as to what is the some staff and I think we have to respect it, if that is broad decision. That inevitably has to come either the view that they have given to him. Since the report from the policy committees or from the senior was published, I have been back through the executive of the Bank. The junior staff are asked to recommendations I have put up to the Governors, and produce a draft of recommendations, but at that point I am comfortable that we have not failed to put up they know what the broad decision is. But why don’t recommendations that would be unpalatable. Of we ask Paul, because— course we discuss what is likely to get accepted or not, but we frequently put up things that mean you Q14 John Thurso: I was going to, absolutely. Can I might be unpopular because we think it was the right just ask you this before I move to the others? The thing to do. Sometimes they are accepted, sometimes central thrust of what Winters was saying in his other decisions are made. I think what we have to report—and it is backed up by stuff that other people address is why the staff have this perception. That have said—is that of necessity and over time, the could be because they do not see the whole of the Bank is a broadly hierarchical construct. It has been process. It is a relatively ad hoc process, where we described as a constitutional monarchy, which makes put up recommendations to the Governors, we have a you indeed the king, but— meeting, we discuss what to do and that comes back Sir Mervyn King: Can I say, if this group of four down again. One of the ways forward in this might people are a constitutional monarchy, then that is a be to have a bit more formality about an operations very odd definition of what a constitutional committee deciding some of these things, whereby we monarchy is. can share minutes with more of the staff. They can cobber Pack: U PL: COE1 [E] Processed: [09-01-2013 11:41] Job: 026006 Unit: PG01 Source: /MILES/PKU/INPUT/026006/026006_o001_db_TC 27.11.12corrected.xml

Ev 4 Treasury Committee: Evidence

27 November 2012 Sir Mervyn King, Paul Fisher, Dr Martin Weale CBE and Dr Ben Broadbent see the whole of the discussion. You may have a lot wanted to remain within the central lines of the way of ideas, but you cannot keep reinventing the wheel, the Bank was thinking. you cannot keep reassessing a decision that has Sir Mervyn King: Let me give you one example already been made. So when you are putting where I genuinely do not think that is true. It goes recommendations up, you have to take account of back to what the Chairman said earlier. I think the what decisions you have already had, where you have staff probably take a more upbeat view on the reached, where your direction of travel is. That would prospects for the Chinese economy than I would be not stop us reopening something if we wanted to, but inclined to, and we have had quite an active to and you need to have good arguments if you are going to fro-ing about why I believe what I do and why they reopen a decision that has already been taken. believe what they do. It has been a productive exchange of views, and I have never seen them Q17 John Thurso: Perhaps I can ask Ben to talk remotely shy about saying, “Look, hang on. Why do some more. Do you see any of this, and is this you think that? These are the data, look at this”. something you are aware of, either the views that I think there is one recommendation that Bill Winters Winters was putting forward or the contrary view that made that I would certainly strongly endorse, which the Governor put forward? is that when there are meetings of the three Governors Dr Broadbent: It is difficult to prove a negative, in a to decide on issues relating to matters that are not the sense. As Paul says, this is a view that has been purview of the three major policy committees, then expressed. I do not see much evidence for it. In both formal minutes be kept of any dissenting view among the inflation report meetings and the pre-MPC that group of three—soon to be four—people. I would meetings, there are relatively junior staff who are strongly endorse that. I think that would be a good idea. asked to give their opinions. There is, prior to the inflation report, a forecast challenge meeting in which staff are explicitly invited to give contrary views. As Q21 Mr Newmark: My first question is for Paul the Governor said, heads of division are also asked to Fisher. In the June meeting, you decided that express the views of staff about MPC decisions. additional asset purchases of £25 billion over two Indeed, there were sort of shadow meetings in the staff months were the right policy action. You found yourself in the minority position. How would you and I have been asked to go to two or three. Certainly explain yourself? if I have written a speech or I am doing any other Paul Fisher: My vote for £25 billion was very much work, I have never felt there was any problem in my one of timing. We had at that point two months to go contacting junior staff or them contacting me. before the August inflation report. I thought £25 billion was the right amount to do in that interval, with Q18 Chair: I will just quickly check, this looks like the expectation that come August, we would want to it is a degree of unanimity, but— do more. So if you like, £25 billion was a down- Dr Weale: I think so. I would like to say that I have payment on the full amount I expected to do, and over heard staff say at meetings—and relatively junior the time interval we had, I thought £25 billion was the staff—that they disagree with the MPC’s view, that right amount. So that was my personal view. Others, the MPC view is different from the staff view. I think, when they spoke about it, I think placed less weight as Paul said, one needs to think about why the Winters on the time period over which it would have done. I report has reported what it has, but it is certainly not don’t know what period they had in mind. the perception that I have. I have felt I have very good access to junior staff and they tell me what they think. Q22 Mr Newmark: I am going to ask them in a minute, but do you think your views were reflected in Q19 John Thurso: The last question, if I may, is to the minutes properly or not? you, Governor. Clearly there is a view that what was Paul Fisher: I think so. I did go back over the in the Winters report on this is not accurate, if I can minutes, and with all minutes, of course you could put it like that, or that he has picked up on a problem always have much longer and an opportunity to make that is not as severe. What would be your short it clearer. So I think I made it very clear in the meeting recommendation to either your successor or the court that it was the timing matter for me and I expected to ensure that this kind of thing is flushed out and more to be done in due course. dealt with—in other words, the point that he seemed to be picking up—one way or the other? Q23 Mr Newmark: Drs Broadbent and Weale, how Sir Mervyn King: I think we will have to work very did your views differ from Paul’s and why? hard to make sure that junior staff feel that they are Dr Broadbent: I think the main reason at the time was reassured that they can express their views openly. As I thought the economy was doing okay, and I put more I say, I do not think we feel they do feel such weight in that respect on survey indicators of output hesitation. I think that Bill Winters may have— and also the employment growth. At that time, I did not think—looking forward to inflation further Q20 John Thurso: Just one clarification: my reading ahead—that any further monetary easing was of what he said was not that he was saying they felt warranted. That would be the main difference. they could not express the view, but that they felt that Dr Weale: No, I hadn’t supported further easing then, it would be a good thing to pre-select some of the because I was concerned about underlying inflation, views that they put forward. In other words, it was not that quite possibly it wouldn’t fall away as rapidly as entirely a negative thing; it was that the junior staff the Bank’s central forecast had suggested. cobber Pack: U PL: COE1 [O] Processed: [09-01-2013 11:41] Job: 026006 Unit: PG01 Source: /MILES/PKU/INPUT/026006/026006_o001_db_TC 27.11.12corrected.xml

Treasury Committee: Evidence Ev 5

27 November 2012 Sir Mervyn King, Paul Fisher, Dr Martin Weale CBE and Dr Ben Broadbent

Mr Newmark: So you thought inflation would fall economy. It is about the ability to persuade people to away more or not fall away? spend more today when they know that in the long Dr Weale: No, that it would not fall away as rapidly run—which cannot be deferred indefinitely—they will as the central forecast had suggested. Of course that have to adjust to a new equilibrium. is not a reason for thinking that you never need to provide extra support to the economy, but I think Q26 Mr Newmark: But I am curious—when you are generally I have been on the slightly pessimistic side benchmarking the impact of that, what are you really about the inflation outlook. looking at? When I think of QE in the extreme, if you keep effectively printing money, at some stage—and Q24 Mr Newmark: Turning to the Governor, the maybe it is a bit like a VLCC tanker—you create minutes of the MPC note that, “While views differed inflation further down the road. Is that not a concern over the exact impact of the MPC’s asset purchases, of yours, if you keep printing money? the Committee agreed that demand and output would Sir Mervyn King: What we are doing is expanding have been significantly weaker in their absence.” I am what is called base money reserves at the central bank just curious first of all to hear your view on that, and by a tremendous amount, a huge expansion of our maybe hear from the others as to how their views central bank reserves. In more normal times, you might have differed. might expect that that expansion of reserves would Sir Mervyn King: I think everyone on the committee feed through to an expansion of broad money, and has taken the view that without asset purchases, the hence to demand spending and then ultimately increase in the money supply, the level of demand and inflation. That is not happening at present. If we saw then output would have been a good deal weaker. We any sign of it happening, that would be the moment tried to make some stab at calibrating this in our to make a sharp change to the size of central bank published article last year. I do not attach a great deal reserves that we have created. Now, we have the tools of confidence to our ability to quantify it at this stage, to do that. We certainly have the tools to do that. It because we are operating in territory that we have not could be asset sales or could be raising Bank Rate. I observed very often in the past. I would look at this am not worried about the lack of tools. What will be simply through what has happened to the figures for a real problem—and I do not underestimate the broad money. In the absence of what we have done, I significance of this—is that the judgment about how would have expected a contraction in broad money, much to raise Bank Rate or how much to engage in and that would have taken us into very serious asset sales, and the knock-on effect of that on long- territory. I think that contractions of a significant size term interest rates, will be difficult to gauge in in the broad money stock are what led to the great advance and will determine the outcome of policy. So depression in the United States in the 1930s, what has I think there is a very difficult policy judgment to be led to the equivalent in Greece today and would have made down the road—first as to when we start threatened us—and indeed other countries—had we tightening monetary policy and then how rapidly we not expanded our balance sheet in the way that we tighten monetary policy—but I do not think it is a did. I think other central banks have taken the same debate about how we would do it. The very difficult view, because the balance sheets of central banks have judgment, which I am sure my successor will help the broadly expanded by roughly the same amount and committee find a way through, will be a tough using very similar types of instruments. judgment, but it is not a decision about finding tools. The problem we have now is that we have used a Q25 Mr Newmark: Just before I get to other views, large number of tools, and it is I think reaching the I would agree with you on the first part. Mr Chairman. point where it is difficult for conventional monetary I have an MG TD and I know that when I do a cold policy measures, including asset purchases, to bring start in the morning, I have to pull out the choke and forward spending from the future to the present. sort of flood the engine with petrol and it gets it going. If I keep the choke out, there is a marginal impact in Q27 Mr Newmark: No, I get that totally. I am just terms of getting my car going. Maybe that is not a curious as to any of the others. Do you have maybe great analogy, but I would just be curious, do you different views on the marginal impact of further QE think the latter rounds of QE have been as effective and are any of you concerned about inflation being as the first? stoked up? Sir Mervyn King: What I would say is that it is a Dr Weale: Could I offer some thoughts on that? I said proposition that is not to do with asset purchases as in a speech late last year that the bank’s central such, but is to do with any aspect of monetary policy estimate of the effects of QE was at the upper limit of that we might engage in. The purpose of monetary what I thought was plausible. I came to that view by policy in part is to persuade people to spend today thinking about what the effect of reductions in long- what they might otherwise have spent tomorrow. You term interest rates—which I am confident QE bring spending from the future to today. The longer delivers—would be likely to be on investment and on time goes on, tomorrow turns into today, and by now consumer spending. That said, I should say that if you has become yesterday. This means that you have a were just to ask people what they thought the effect hole to fill that you have created, which you had of a change in interest rates would be, there would be hoped you wouldn’t need to fill because by now the a divergence of views. I am very happy to sign up to economy would have picked up, and it hasn’t. I think the idea that asset purchases do support the economy it is not asset purchases as such that are less effective. and that they have been supporting demand, and that We are still injecting more broad money into the means supporting GDP in the slightly shorter term. cobber Pack: U PL: COE1 [E] Processed: [09-01-2013 11:41] Job: 026006 Unit: PG01 Source: /MILES/PKU/INPUT/026006/026006_o001_db_TC 27.11.12corrected.xml

Ev 6 Treasury Committee: Evidence

27 November 2012 Sir Mervyn King, Paul Fisher, Dr Martin Weale CBE and Dr Ben Broadbent

Then in the slightly longer term, it does mean that Mr Newmark: I have one last quick question, if I can. inflation is a bit higher than it otherwise would be. Chair: Be very quick, and a very quick reply. Do I think in the end the asset purchases will lead to inflation? What you have to remember is that the Q28 Mr Newmark: This is a question one of my Monetary Policy Committee will always be pursuing pensioners has asked me to ask you. My pensioners, an active policy in order to keep inflation close to its and I think all of us here, have been saving up— target, and that policy at some point in the future will Chair: This is going to be a quick question? involve selling off the holdings of assets. Of course, Mr Newmark: Yes, let us get there. Their view of the it is also likely to involve increases in the interest rate impact of QE—which is to keep obviously interest eventually. I would not like to say when, but rates incredibly low—is that having saved up their eventually we will move back towards more normal whole lives, they are effectively becoming dis-savers. levels. So the Monetary Policy Committee has the Do you feel that the impact on pensioners has been a tools to keep inflation under control and of course its price worth paying for them with your current QE job is to go on using them. policy? Mr Newmark: Okay, anybody else? Sir Mervyn King: Don’t put words into my mouth. Dr Broadbent: I think there is a slight Our job is to try to meet the inflation target, and in misunderstanding sometimes about the link between order to do that, like all central banks around the money and inflation. For one thing, as the Governor world, we have lowered interest rates and made points out, if there is a reliable relationship, it is broad monetary conditions easier. That is the remit that you money that matters, which for the private sector is all in Parliament get us to do and we have carried it out. that matters. That is what we think of as money, and Chair: We just ask questions, as you know, Governor. that hasn’t grown at all. Secondly, even just focusing We just ask questions. on the narrow money on the Bank’s balance sheet, what matters is not the size of that per se, but how Q29 Mr Love: Can I turn to the discussions around much central bank money there is and the supply of the decision about transferring the coupons held in it relative to what people want to hold at a given level the asset purchase facility? Did the Treasury initiate of nominal income growth. For the last few years, those discussions? because of extremely high risk-aversion and Sir Mervyn King: Yes. unwillingness to hold any other asset—even sometimes liabilities of private sector banks—the Q30 Mr Love: When was that possibility of making demand for central bank cash is extremely high, and the transfer first raised with you? that is why we have not had much nominal income Sir Mervyn King: I would say some time in the first growth. Believe it or not, there is huge expansion, and half of October, though I cannot today remember the it is not in excess of the demand for cash at the current precise date. level of nominal spending. As the Governor says, what will be difficult is judging the moment at which Q31 Mr Love: Did it not give you a little cause for that demand starts to fall away, maybe because concern about the timing of the approach from the confidence starts to return, and it would be a difficult Treasury? matter of judgment to judge when the size of the Sir Mervyn King: The view that we took was that the balance sheet as it is is too large. money in the fund, the APF, does belong to the Paul Fisher: I just wanted to add, you would expect Treasury. They have indemnified the entire facility. the act of substituting central bank reserves for gilts The money there belongs to them. I think that if they into the markets to be dependent on the state of had come to me and said, “Look, we would like some financial markets. So you would expect a differential of this money back now” and I had said to them, “You response depending on conditions, but conditions can’t have it”, this Committee would rightly have remain stressed and those are the circumstances in accused me of despotic behaviour in trying to prevent which asset purchases are most likely to have an the Treasury from having access to its own funds. I impact. But a lot of this discussion happens without think that would have been wrong. So no, I don’t think any evidence. If you look at chart 1.7 of the inflation we should have been excessively concerned about it. report, you see one of the indicators of the evidence, which is the extent of net sterling corporate bond Q32 Mr Love: Did you raise with them why it was issuance by non-financial companies in the UK. As that they were coming to you at that particular you can see, in the two years in which we have done junction, knowing that we were within a month of the the most QE, 2009 and 2012, you have had record autumn statement and knowing that there were issues issuance of sterling corporate bonds. That is what you about whether or not they would meet the fiscal rules? would expect, because as we take gilts out of the Did that occur in any of the discussions that you held? market, investors have to go and buy something else, Sir Mervyn King: What I did make very clear to the and the demand for corporate bonds goes up. So you Treasury was that I thought it had no impact at all on can see a very similar sort of impact in 2012 to what the long-run fiscal position and that there was no you had in 2009. Also, having been to the States, the benefit to the taxpayer from making this change, that evidence I have had there from market contacts is that what you might gain in one year on the published QE, if anything, seems to be working more strongly accounts you would lose on a subsequent year—and now there than it did in the earlier phase through that view I made very clear. But it was their money, similar sorts of portfolio balance challenge. and it is not for me to say what they should do with Chair: We are going to have to move on. their money or how they publish their accounts. cobber Pack: U PL: COE1 [O] Processed: [09-01-2013 11:41] Job: 026006 Unit: PG01 Source: /MILES/PKU/INPUT/026006/026006_o001_db_TC 27.11.12corrected.xml

Treasury Committee: Evidence Ev 7

27 November 2012 Sir Mervyn King, Paul Fisher, Dr Martin Weale CBE and Dr Ben Broadbent

Q33 Mr Love: Can you just clear up the legal response was that he had discussed this on several position in relation to this? Did you check whether occasions with the Bank of England, so his defence legally you had any right to refuse, or was the position of the decision is that this was agreed with the Bank legally very clear that the Treasury could ask for this of England. money without your— Sir Mervyn King: Sorry, which decision are you Sir Mervyn King: The position was very clear. It is talking about now? their money. They indemnify the entire fund. Any Mr Love: The decision to transfer the funds. attempt by the Bank to have said, “You can’t have Sir Mervyn King: I think we accepted that the money your money back” would rightly have been belonged to the Treasury and they were entitled to condemned by this Committee, or at least some have the money back. The consequences of that in members of it. terms of the presentation of the public accounts and the concerns that you and others have raised—that it Q34 Mr Love: Let me ask you, did you take this may be a method of misleading people about the decision alone or did you consult with other members public accounts—are entirely for the Treasury to face of the MPC or other members of the bank? I know up to, not for the Bank. I listen very carefully to the that you discussed it at the following MPC meeting, advice I get at this Committee, and usually do not but was this decision already taken by that stage? stray into fiscal policy territory. This is about the Sir Mervyn King: It is not a decision to take. It is presentation of public accounts, and I do not want to their money, they are entitled to have it when they dissuade you from looking into that and raising it with want, so from that point of view we had no decision the Treasury, but the Treasury is entitled to have the to take. What we had to do was to decide how to money back, they are entitled to publish their accounts react to it and to give advice to the Treasury on the in the way that they want, and you are entitled to consequences of it and how we would interpret the challenge them about whether those accounts are consequence of it. There were two meetings of the misleading or not. In no respect does that affect the Monetary Policy Committee. We all understood the ability of the Bank to carry out monetary policy, position about the fact that the money did belong to which is our job, or our standing in so doing. the Treasury and we thought deep and hard about what that meant in economic terms and how we would react Q39 Mr Love: One final question, and that is in to it. relation to part of the criticism there has been—that you have taken a relatively narrow view of the remit Q35 Mr Love: Have you been surprised by the of the Bank of England and the Monetary Policy adverse comment that there has been, particularly in Committee, and that while you obviously cannot stray the press, in relation to that decision? into fiscal policy, the grey area between fiscal and Sir Mervyn King: Not entirely. I think any move of this kind is likely to attract a good deal of cynical monetary policy is somewhat narrowed in the current comment from our press. economic circumstances. Therefore, people would have expected you to exercise some judgment as to whether or not this was an appropriate thing in terms Q36 Mr Love: Don’t you accept that it is more than cynical comment? I mean, there is real concern that of the timing of the transfer, rather than any other this decision will give the Chancellor the option to, issue. some would argue, manipulate the accounts to— Sir Mervyn King: It is their decision, and I think it Sir Mervyn King: No, I don’t, because I think it is would have been wrong for me to say yes or no. We very clear—and I suspect and hope the OBR will say have private discussions all the time about the merits this—that this does not give anyone an option. It is of doing various things, and those discussions are merely taking cash in one year with a clear private, but when it comes to a public statement about commitment to have to repay it in the next, and any whether the Bank had the right to say no, the answer impact it has on borrowing this year will be offset, is very clear, and it does not in any way affect our other things being equal, by a higher borrowing need ability to set monetary policy. That would have been down the road. It does not have any impact on the a very serious problem if that had arisen, and I would long-term fiscal position. have talked publicly about the consequences of any decision that would constrain the ability of the MPC Q37 Mr Love: I think everyone accepts that, but if to set monetary policy. But this was discussed among the Chancellor chooses to use the coupon when the committee—ask the others here today—and we all assessing compliance with his fiscal targets, will that agreed that while it certainly affected monetary have any adverse effect on the standing of the Bank? conditions, in the sense that it was broadly equivalent Do you think that— to a stream of asset purchases over the next year of Sir Mervyn King: I do not think it will have any effect £37 billion, we can take that into account and pursue on the Bank of England. I think that it is exactly the whatever monetary policy we want in order to offset sort of issue that you should be discussing with the that. I think everyone understood that and was content Chancellor and the OBR, but not with the Bank of with that, because our policy options were not England. constrained. Mr Love: I would love to go on and discuss that with Q38 Mr Love: This was indeed raised at the you, but I am afraid it is up to one of my colleagues statement yesterday about the very welcome to do so. appointment of Mark Carney. The Chancellor’s Sir Mervyn King: Come back later maybe. cobber Pack: U PL: COE1 [E] Processed: [09-01-2013 11:41] Job: 026006 Unit: PG01 Source: /MILES/PKU/INPUT/026006/026006_o001_db_TC 27.11.12corrected.xml

Ev 8 Treasury Committee: Evidence

27 November 2012 Sir Mervyn King, Paul Fisher, Dr Martin Weale CBE and Dr Ben Broadbent

Q40 Mr Ruffley: Sir Mervyn, you have been clear access to information that is not in the public domain, that you discussed with your fellow MPC members that does not belong to the committee and that we this decision to allow the transfer of coupon income have no right to put in the public domain. On that net of borrowing cost to the Treasury because it was particular occasion, there were two pieces of their money. That is basically what you are saying. information that were highly relevant to our decision. When did you first discuss that with the Chancellor of One was the transfer of coupons from Bank to the Exchequer? Treasury and the other was the inflation number the Sir Mervyn King: As I said, it was the first half of next week, which we knew about, and in neither case October, but I can no longer remember the precise would it have been appropriate to put that in the public date. domain. But this happens on a regular basis. The committee often has access to information that is not Q41 Mr Ruffley: But you spoke to him—it wasn’t in the public domain and— officials in the Bank speaking to officials in the Mr Ruffley: Well, I know you— Treasury. Chair: Just let the Governor finish. Sir Mervyn King: There were communications at Mr Ruffley: Sorry. several levels, which often happens with issues like Sir Mervyn King: The purpose of the minutes, that. published 13 days later, is that usually such Mr Ruffley: Which was it? information has gone into the public domain by then Sir Mervyn King: It was both. The Chancellor spoke and the minutes provide a full explanation of the to me and officials in the Treasury spoke to their decision, explaining it in terms of the information that counterparts in the Bank. is in the public domain, including that which the committee had privy access to at the time it reached Q42 Mr Ruffley: Okay, so this idea that it would be its decision. prudent cash management from the Treasury’s point of view, the Chancellor raised it out of the blue at the Q46 Mr Ruffley: Why didn’t you decide to put it in beginning of October? the public domain on 8 November? Sir Mervyn King: I cannot remember exactly when, Sir Mervyn King: Because it wasn’t our decision to but at some time around that point, yes, it was raised put it in the public domain. by them. Q47 Mr Ruffley: But it is monetary policy? Q43 Mr Ruffley: But they had not mentioned it Sir Mervyn King: No, this is the Chancellor’s before October? decision to transfer the coupon. Sir Mervyn King: No. Mr Ruffley: Not at all? Q48 Mr Ruffley: No, no, no. You can look at it as Sir Mervyn King: Not at all. cash management—it was the Treasury’s money—but it is monetary easing to the tune of £37 billion. How Q44 Mr Ruffley: All right. On 8 November, the on earth can that be anything other than monetary MPC released a press notice stating that that day “the policy, Governor? committee also voted to maintain the stock of asset Sir Mervyn King: It is broadly equivalent to asset purchases financed by the issuance of central bank purchases of that scale, and many things happen in the reserves at £375 billion”. Did you approve that press economy that are equivalent— release personally? Sir Mervyn King: This is the November, the Q49 Mr Ruffley: But isn’t that a monetary easing? beginning of November? Sir Mervyn King: It is not a decision taken by the Mr Ruffley: 8 November, on the day when there was central bank. It is broadly equivalent to asset the announcement that the 0.5% base rate and the purchases of a scale. It affects monetary conditions in £375 billion were not changing. the same way as many other changes. Sir Mervyn King: Yes. The press statement is approved by the Monetary Policy Committee as a Q50 Mr Ruffley: So you are saying it is not a whole. It was circulated to every member of the monetary easing? committee at the meeting and we all approved it. Sir Mervyn King: It is not a monetary easing decision of the central bank. Q45 Mr Ruffley: The words I have just read out are part of a whole press release on 8 November, which Q51 Mr Ruffley: But it is not monetary easing? does not mention at all that MPC knew about, had Sir Mervyn King: It is broadly equivalent to— discussed the £37 billion coupon income being moved Mr Ruffley: So it is monetary easing? You need to to the Treasury, which obviously amounts to a be clear. monetary easing of £37 billion. Why did you decide Sir Mervyn King: Don’t try and put words, Mr to hide that? Ruffley— Sir Mervyn King: We didn’t hide it. As we— Mr Ruffley: I am not. I am asking, is it monetary Mr Ruffley: You didn’t put it in the press release. easing or not? Sir Mervyn King: No, we did not, and as— Sir Mervyn King: You define monetary easing first Mr Ruffley: Why not? and then I will answer. Sir Mervyn King: As with many examples of press Mr Ruffley: I am asking you to say, is this monetary releases on the day of decisions, the committee has easing? cobber Pack: U PL: COE1 [O] Processed: [09-01-2013 11:41] Job: 026006 Unit: PG01 Source: /MILES/PKU/INPUT/026006/026006_o001_db_TC 27.11.12corrected.xml

Treasury Committee: Evidence Ev 9

27 November 2012 Sir Mervyn King, Paul Fisher, Dr Martin Weale CBE and Dr Ben Broadbent

Sir Mervyn King: If you define what you mean by propositions—that the Government might have to those words, I will answer your question. borrow more expensively at higher interest rates than at the moment, and that therefore that might not be Q52 Mr Ruffley: It is putting money back into the prudent cash management. What do you say to that holders of gilts, isn’t it? charge? Sir Mervyn King: Yes. Sir Mervyn King: I think that all kinds of things can Mr Ruffley: It is injecting £37 billion cash, in very happen. You have made a perfectly reasonable simple terms, back into the economy. speculation on what could be the case. None of us Sir Mervyn King: There are many other things— knows. Mr Ruffley: That is my basic definition of monetary easing. Now, that is monetary easing from your point Q57 Mr Ruffley: No, it is not speculation, because I of view as well, isn’t it, Governor? Isn’t it? asked those previous two questions for a reason. The Sir Mervyn King: It is certainly equivalent to asset unwinding would by and large take place when the purchases that inject money into the economy, as economy is in better shape, and all things being equal indeed are many other developments in the economy, borrowing rates would be higher, so borrowing would including changes in exchange rates that alter be more expensive for the Government when you monetary conditions, all of which are relevant to the were doing the unwinding, if they had to borrow policy stance of the MPC. But we are not entitled to money to cover any losses to indemnify you. Isn’t that put into the public domain information that does not the case? belong to us but belongs to others. Others will have Sir Mervyn King: You have to take an average of the to decide when they put such issues into the public cost of borrowing at the long end versus what they domain. are doing with this operation, which is to borrow at Mr Ruffley: Are you surprised that— the short end, so how that averages out is almost Sir Mervyn King: This happens on a regular basis, impossible to say. Mr Ruffley. Mr Ruffley: Okay, thank you, Chairman.

Q53 Mr Ruffley: I understand that. I just think there Q58 Mr Mudie: You first heard of this, Governor, has been a huge amount of informed and professional and first started these conversations with the comment about your omission in that 8 November Chancellor in early October. Did you alert the MPC press release. in October to what was in the Chancellor’s mind, to Sir Mervyn King: The minutes that came out less than give them time to consider? two weeks later made very clear— Sir Mervyn King: Very shortly thereafter we had a Mr Ruffley: They do indeed, yes, but it seemed to be conversation about what might happen. There was not very transparent. This omission has been nothing definite at that stage, but the MPC were— commented on not just by members of this Committee but far and wide, as I am sure you are aware. Do you Q59 Mr Mudie: Who had the conversation? think it makes information released by the Bank of Sir Mervyn King: I had a conversation with the MPC. England more or less trustworthy? Sir Mervyn King: Since we have been completely Q60 Mr Mudie: On the record, in a meeting? transparent about this since the day the Chancellor put Sir Mervyn King: Yes. this information into the public domain, and the minutes are very clear, I do not think it does affect the trustworthiness, but I cannot judge that. Others will Q61 Mr Mudie: So you told them what was in the have to judge that. Chancellor’s mind? Sir Mervyn King: I said it was a possible transaction Q54 Mr Ruffley: Just one final question or two for that the Treasury might want to carry out, but they you, Governor. The likelihood is that the asset had not reached a decision on it. purchase facility will be unwound when economic conditions are a bit better. You would agree with that, Q62 Mr Mudie: When you firmed up these wouldn’t you? discussions with the Chancellor, did the Chancellor Sir Mervyn King: Yes, but at what scale is impossible give you an indication—a specific indication—of to say. what he was going to do with the £37 billion? Sir Mervyn King: Yes. He made it clear that he was Q55 Mr Ruffley: Yes, forget about the quantum, not going to use the money to raise Government because that would be a ridiculous question to ask, spending or to borrow less than would otherwise have but by and large you might expect bond yields to be been the case. higher than they are now when the unwinding takes Mr Mudie: In other words, he would enter the place. You would pretty much agree with that? monetary policy field? Sir Mervyn King: A third factor, namely the strength Sir Mervyn King: He would be carrying out an action of the world and our own economy, would probably that would be equivalent in broad terms to increasing have led to bond yields at the long end being higher, asset purchases, yes. and there is our wish to tighten monetary policy, yes. Q63 Mr Mudie: But from the outside, on monetary Q56 Mr Ruffley: It has been argued that that being policy you now look as independent as a Chelsea the case—and you have assented to those two manager. The Chancellor has just wandered in, taken cobber Pack: U PL: COE1 [E] Processed: [09-01-2013 11:41] Job: 026006 Unit: PG01 Source: /MILES/PKU/INPUT/026006/026006_o001_db_TC 27.11.12corrected.xml

Ev 10 Treasury Committee: Evidence

27 November 2012 Sir Mervyn King, Paul Fisher, Dr Martin Weale CBE and Dr Ben Broadbent

£37 billion, spent it in your field and you have just was accidental. No one bothered to sit down and ask accepted it. about this at the beginning. No one really expected Sir Mervyn King: Few Chelsea managers have that the scale of asset purchases would reach this level managed to last 10 years, Mr Mudie. or continue for so long, so no one really paid much attention to the question of the coupons for the first Q64 Mr Mudie: You are supposed to be couple of years, because it wasn’t an important issue. independent. When a Chelsea manager takes a I really do not think this constrains the MPC at all, decision, they do not regard themselves as but why don’t you ask others if they feel constrained? independent. I cannot see how you can regard yourself independent from monetary policy. Q67 Mr Mudie: I want to carry on in the same spirit Sir Mervyn King: As was mentioned just now, very as Brooks did earlier on about the Chancellor taking correctly—whether it was Mr Love or someone else, money and spending it now, and probably leaving a I have now forgotten—when interest rates are close to future Chancellor and a future economy to face up to zero, the boundary between monetary and fiscal policy a higher price. We have had this worry for some time. is extremely hard to define. What matters in terms While supporting QE and saying, “No alternative to of asset purchases is whether the total effect of asset QE”, you cannot be blind to the fact that there is a purchases that the MPC wishes to achieve is or is not price to pay for this. It is odds on, as and when the thwarted by actions taken by the Treasury, and the economy recovers, that the price will be greater than MPC discussed this at length and decided, without any where it is now. Did you specifically warn the doubt, that the MPC was not constrained in its setting Chancellor that it was no accident that this money was of monetary policy. in the quantitative easing account, and that it would Mr Mudie: No one is suggesting you are constrained. be necessary to have that? By taking it and raiding it Sir Mervyn King: We are not constrained. now, entering into your field, he is not being very clever or very fair to your successor or to any Q65 Mr Mudie: You are now sharing, that is the successor of his as Chancellor. point. You are not independent, you are sharing. The Sir Mervyn King: Well, he has certainly raised— Chancellor has decided to enter your field, and you Mr Mudie: Did you warn the Chancellor of that? have admitted or volunteered in this Committee that Sir Mervyn King: I certainly discussed with him the you have no power to stop him, so you are not consequences—that taking the cash now from the independent. Monetary policy is not a matter for you bank to the Treasury would mean additional and the MPC now. The Chancellor has entered the borrowing down the road, and of course the price that field. that borrowing would pay would depend on the Sir Mervyn King: No, that is not right, Mr Mudie. maturity at which the debt was issued. The question Mr Mudie: You have accepted it. that you raise about whether interest rates would be Sir Mervyn King: No, that is not right, Mr Mudie, higher in the future, and therefore what is the optimal because whatever the Chancellor does in terms of this timing of debt management, is an important question, one-off scheme that is written down and stated very but it is very clearly one for the Treasury and not for clearly to Parliament and to the world, we can offset the Bank. It is very clear that the previous it. We can offset it to any extent we want. We can add to it or we can subtract from it. Government took debt management away from the Mr Mudie: No one is suggesting that, exactly. Bank, and I do not want to comment in public on an Sir Mervyn King: In that case, how on earth can we issue that is very clearly that for the Treasury and no longer be described as independent? the DMO. There is an important and crucial question that has Q66 Mr Mudie: No, exactly. No one is suggesting received far too little attention: what is the right you do not have the facility to take whatever decisions maturity structure of Government debt to issue? If you you wish. The point is that this monetary policy area feel you are in a position where interest rates are is the responsibility of the Bank of England and the unusually low for a period, that will affect the answer Monetary Policy Committee, and the Chancellor has to that important question. I would encourage you to entered it, taken £37 billion that was pretty prudently pursue it with the Treasury and the DMO. It is an placed for future recouping of the QE money and important question, I accept that, but it is not a decided to spend it on monetary policy issues. So I responsibility for the Bank. I do not think I should put am not suggesting for a second he has constrained myself in a position of saying publicly to the DMO your forces, if you wish. You can do what you wish, and the Treasury what their policy should be. But I but he is in there with you now, because he has taken did make it clear to the Treasury, and I think they £37 billion and he has spent it on monetary policy were well aware of it anyway, what the consequence issues. That is true, isn’t it? of this action would be. Sir Mervyn King: I do not attach the significance to it that you do, because every month the MPC can Q68 Chair: You said a moment ago that you felt that offset any action that the Chancellor sets in this area, this sum had been building up almost by accident, as and we can achieve the monetary conditions we want. a by-product—you are nodding your head in This particular form of transferring the coupons is agreement, Mr Fisher. While that was taking place, hardly novel. It is exactly what the Americans and the was there not a strong duty on the Bank all the time Japanese have done. The reason why the money built to press the Treasury to regularise the situation before up in the Bank was not a conscious effort. It really we arrived at such a large sum of money? cobber Pack: U PL: COE1 [O] Processed: [09-01-2013 11:41] Job: 026006 Unit: PG01 Source: /MILES/PKU/INPUT/026006/026006_o001_db_TC 27.11.12corrected.xml

Treasury Committee: Evidence Ev 11

27 November 2012 Sir Mervyn King, Paul Fisher, Dr Martin Weale CBE and Dr Ben Broadbent

Sir Mervyn King: It depends what you mean by minutes are published, all will be revealed and the “regularise”. It did not seem to me—Chair: You said explanation made fully clear. I think that is why we a moment ago that transferring the coupons is attach so much weight to the minutes. standard practice. Chair: I think we are much closer to being in the Sir Mervyn King: It is a perfectly reasonable thing to same place—that there is something here that is a do, but I do not think— cause for regret. Whether it is a minor or major regret Chair: That is regularisation, isn’t it? That is doing is another matter— the normal thing. You wouldn’t say this is abnormal, Sir Mervyn King: Indeed. would you, Governor? Chair:—but there is something that could have been Sir Mervyn King: No, I wouldn’t say it was abnormal, better handled. nor do I think there was any desperate need to do it. Sir Mervyn King: Indeed. I mean, it was something that to my mind does not have very much economic significance. It does not Q72 Mr McFadden: It seems curious, Governor, that constrain the MPC, it does not affect the underlying £37 billion could build up by accident. I mean, even position of the public finances. If the Treasury wanted between friends, that is a fairly serious sum of money. to do it, then it was their decision and they should be Sir Mervyn King: Let me rephrase it. The money did free to do it. not build up by accident. It accumulated in the fund. The question of whether the fund was the right place Q69 Chair: What is the answer to my question to allow the money to accumulate or whether it should though? Why didn’t you go to the Treasury? be transferred to the Treasury did not seem to me to Sir Mervyn King: Because I do not think we felt it be a matter of any great significance. If the Treasury was of any significance. There are plenty of other had wanted to do something about it, they were things to worry about in the UK economy, but tidying always free to do it. For me, it did not seem a very up something that did not desperately need tidying up important decision. It was true in the case of Japan did not seem to be a priority. and the US that the coupons were transferred. In our case, it was not. I do not think that affected anything Q70 Chair: Okay. There is another point that I am of any fundamental importance at all. It affected not quite clear on. Given that some might argue—you neither fiscal policy nor monetary policy. It did not might feel perniciously—that the minutes that you seem to be an issue that was worth raising. published could be construed as somewhat misleading because this knowledge of this transfer was not in the Q73 Mr McFadden: Let me ask you a bit about the public domain at the time— impact of it. Chris Giles, writing in the FT, said that Sir Mervyn King: Not the minutes, the press following this decision, he no longer believes that statement. “this government is serious about economic or fiscal Chair: In the press statement. Why you did you not policy. Nor does it appear the institutional checks and ask for the release of this information and the balances work to protect the public.” He says the Treasury’s announcement to take place at a time co- effect of this is that the Treasury is proposing ordinated with the press statement? expensive borrowing in the future instead of cheap Sir Mervyn King: They knew when our meeting was borrowing now. I do not expect you to agree with taking place and when we would release our press his overall classification of the decision, but on this statement. It was really up to them to decide whether borrowing point, is it a fair point to say that the effect they wanted to go before or after us, and they chose of this is to propose expensive borrowing in the future after. instead of cheap borrowing now? Sir Mervyn King: That will depend on what the Q71 Chair: So to the extent that the public arguably Government choose to do in debt management in the have been misled to some degree or have had an future. I cannot answer that. This is the point that Mr incomplete picture of monetary conditions for that Mudie raised. It is an important point and it is a period— question you might take up with the Treasury, but it Sir Mervyn King: To the extent— will depend on their strategy for debt management. Chair: Let me finish as well, Governor, since I gave you the opportunity to finish. To that extent, would Q74 Mr McFadden: Let me ask the other members you argue that it is a responsibility of the Treasury to of the MPC. In the same article, he says that the MPC have closed that gap and they failed to do so? “appears to have acquiesced in an easing it had not Sir Mervyn King: I would argue that. I think it is initiated, after misleading the public that it had kept unfortunate if people were misled, and I think that is monetary policy unchanged when it took its monthly a matter for regret, but I do not think it is a very decision last Thursday. Allowing the Treasury to significant point. There was other very important initiate monetary policy suggests the MPC has lost information that the committee had that we could the plot”. never have released until the inflation data were Dr Broadbent: Can I answer? Chris, who is sitting published the next week. People knew that we see the here, and I had a conversation, and I have known him inflation number, but they didn’t know what it was a long time and respect him a great deal, but on this until next Tuesday. From that perspective, it is always point I think he is completely wrong. I went into that the case that the committee is likely to have, or may meeting if anything feeling that I was going to vote have, information that the rest of the world does not for more asset purchases. have. What people can be assured of is that when the Mr McFadden: You effectively did. cobber Pack: U PL: COE1 [E] Processed: [09-01-2013 11:41] Job: 026006 Unit: PG01 Source: /MILES/PKU/INPUT/026006/026006_o001_db_TC 27.11.12corrected.xml

Ev 12 Treasury Committee: Evidence

27 November 2012 Sir Mervyn King, Paul Fisher, Dr Martin Weale CBE and Dr Ben Broadbent

Dr Broadbent: Let me finish. The economy had things considered. So I had absolutely no difficulty in turned down. The output indicators were pretty weak. voting for the decision that I made, and I did not think In fact, we have never had output indicators and that it would be appropriate either to try to unpick the surveys suggesting that we can see the policy asset purchases that we had been carrying out or to tightened. Most of the time, it has been eased. There suggest an increase in the bank rate. were two things that gave me pause and or changed my opinion and made me vote not to increase asset Q77 Mr McFadden: I understand that logic, but purchases. One was, as you say, that we already had doesn’t this make it all the more curious that there some monetary easing effectively through this coupon was no reference to it in the press release? The press transfer, and I was always free to vote whatever I release said, “Bank rate unchanged, quantum of QE thought was appropriate on top of that. I do not think unchanged”. It is pretty fair for the public or it compromised my ability to vote for what I believed commentators to respond to that by saying, “The Bank to be the appropriate monetary conditions one iota. have not changed anything”. But as we tease this out, Secondly, inflation was stronger than we had expected what you are both saying is, “The reason we did not for reasons that were likely to persist into future years. change the quantum of QE was because we were For those two reasons, I decided not to vote for more effectively increasing it by £37 billion because of asset purchases. The question is not so much whether these economic affairs”. So there was quite a big this amounts to monetary easing or not, because it impact to not mentioning it. does. The question is who, as it were, is the last Dr Broadbent: As the Governor has made clear, we mover—who ultimately sets monetary conditions— were in no position to publish information that did and that is the MPC, regardless of this. So I simply not belong to us and was not already public. It was do not agree that it called it into question the published, as I remember it, the following morning, independence not just of the MPC but of individual so the fact of that transfer— MPC members. I just do not think that is true. Mr McFadden: That makes it all the more odd. Dr Broadbent: Yes, but I am just saying we are aware Q75 Mr McFadden: Dr Weale, what is your of lots of things, as the Governor said, that are not response? Tell us when you knew about this, and in the public domain, and that will clearly affect our whether you and other MPC members fully realised decision. Maybe it is unfortunate about the timing, but the kind of fuss that this would cause in terms of the I do not think we were in any position at all to put blurring of the boundaries between monetary and that number into the press release. Then the minutes fiscal policy. made everything plain a fortnight later. Dr Weale: The press have obviously made something Dr Weale: I must say, I agree with that position out of it. I feel that probably they have made more completely. I think that this decision was a Treasury out of it than is justified. From my perspective, the decision and it would be very odd were the Bank of Government do a lot of things that influence prospects England or the MPC to publicise Treasury decisions. for economic growth and inflation. This was obviously one of the things that we took into account, Q78 Mr McFadden: Let me ask you one final like we take into account the other things that the question about this, Governor. The Institute for Fiscal Government do. But it is certainly not a mechanism Studies, in their pre-autumn statement report, said, through which the Chancellor is going to set himself and I quote, “Any assessment of whether the up to try to undo the effects of the MPC. It is part of Chancellor is complying with his fiscal targets should the background, and against that background, we set be based on measures of the fiscal aggregate that do monetary policy to keep inflation close to its target so not take into account the impact of this change, and that we expect it to be at target or close to target in when assessing compliance with the fiscal targets, the about two years. This decision by the Chancellor Chancellor should instruct the OBR to act in the same really does not affect my ability to make the decisions way”, i.e. not take this into account. Do you agree I think appropriate to keep inflation close to its target. with that? Sir Mervyn King: I would not dream of commenting Q76 Mr McFadden: Given that you have all said the on what the OBR should or should not do. That really effect of this is equivalent to an easing of £37 billion, is a matter between the OBR and the Government and was there any discussion of that in the MPC? it is a question you should put to the OBR in due Governor, you said that you could offset this. Was course. there any discussion in the MPC of some unwinding of QE in order to compensate for a decision that added Q79 Mr Love: Can I just come back to this whole up in effect to another £37 billion of QE? issue about publication of the decision? Surely it Dr Weale: Could I perhaps take that question, as one would have been within your remit to ensure in your of the MPC members who is perhaps slightly more discussions with the Treasury that you could publish concerned about inflation than the median? This was all the information at exactly the same time. Was this one of the things that I took into account. As Ben said, never discussed, and why didn’t you insist that they the economy has looked rather weaker than we might should make this known publicly at the same time as have expected, and in the light of that, I thought some the minutes were being published? further support for the economy was justified. One Sir Mervyn King: But we did not know when they obviously cannot tune it to precise numbers, but the were going to publish. We pointed out to them the effects of this transfer seemed to me to provide the consequences of this. They knew the reaction of the support for the economy that I thought appropriate, all MPC. The judgment as to when it was sensible to cobber Pack: U PL: COE1 [O] Processed: [09-01-2013 11:41] Job: 026006 Unit: PG01 Source: /MILES/PKU/INPUT/026006/026006_o001_db_TC 27.11.12corrected.xml

Treasury Committee: Evidence Ev 13

27 November 2012 Sir Mervyn King, Paul Fisher, Dr Martin Weale CBE and Dr Ben Broadbent publish, as Martin has said, has to rest with them. But My disposition is still that I think we may well need I made our position and our view very clear and well some more easing next year, so I am perfectly happy known to them. if there is a bit out there in the system, and when we go into next year, we can perfectly well decide Q80 Andrea Leadsom: Good morning, Governor. whether it is £37 billion, £50 billion, £25 billion or Sir Mervyn King: Good morning. some other number. Andrea Leadsom: This is a very awkward session, it seems to me, because it is highlighting really that the Q82 Andrea Leadsom: Dr Broadbent and Dr Weale, MPC is operating in a complete silo. Don’t you think at the October meeting, you went into there thinking, that this is rather akin to the situation where Tim “I am going to vote for £37 billion of further QE”— Geithner of the US indicated to you he thought that exactly that number. Is that the correct analysis? LIBOR was being manipulated, and you simply Dr Broadbent: No, I went into the meeting thinking reviewed it and then passed it on to the BBA because on the Wednesday—although one can never make up it wasn’t your problem? Are we not in the same one’s mind until one has had the meeting—that I situation again? You are saying, and I quote, “Our job would probably vote for more. We paint, frankly, with is to meet the inflation target”. Because, as far as you a pretty broad brush. We do not vote for asset are concerned, this £37 billion is just cash purchases ever of £32 billion or £37 billion or £41 management, you are allowing the Treasury to get billion, it is £25 billion or £50 billion. So we would involved directly in monetary policy. You are all never have done precisely that amount. complicit in that. Andrea Leadsom: Exactly. Sir Mervyn King: I do not accept any of that, not Dr Broadbent: No, but that makes what we are even a word. The comparison with LIBOR is, to me, talking about therefore a residual number. I don’t completely irrelevant. We did not simply wash our know, I might have voted for £25 billion, I might have hands of it. We did ensure that the BBA was trying to voted for £50 billion, so £12 billion of QE is really do its job, but the BBA had the responsibility. The hardly going to matter one way or the other, right? It only connection I can see is that it is absolutely clear just doesn’t. We do not think in terms of such small in this instance that the Treasury have the units because it is just not possible to be so accurate responsibility for debt management and not the Bank. about it. I think I probably would have voted for more. The idea that we should somehow push our way in This was one reason, but probably the more important public into those areas seems to me completely reason was the inflation print, and I decided not to. contrary to the entire spirit of this Committee, which But the idea that I should definitely have voted for has always said, “We will hold you accountable for £37 billion and that is the only way I can establish my those things for which you are responsible, but don’t independence and the primacy of the MPC in setting stray into other areas of policy”. I think we have monetary policy is, it seems to me, nonsense. behaved absolutely properly in this area and the committee is completely unified on it. So I am Q83 Andrea Leadsom: But Dr Weale, how can that mystified as to why you think that. be nonsense? Clearly MPC members have voted for £25 billion or £50 billion, as Dr Broadbent says, so Q81 Andrea Leadsom: I am not suggesting for a therefore if somebody comes up with a number and moment that you should go and have that discussion imposes it upon you of £37 billion, you absolutely in the press, but are you really saying that you all have the right to say, “I prefer £25 billion or £50 concluded at the October meeting that £37 billion of billion” and therefore to either increase or reduce the further QE was exactly the number that you wanted amount, yet none of you chose to do that. to put into place? That is effectively what you are Dr Weale: I must say, I see the issue as very similar saying. By simply accepting that this coupon was to the fact that we move the bank rate in quarter going to be paid, you knew you were undertaking £37 percentage points, not tenths of a percentage point. billion further of quantitative easing, and somehow One might imagine in some circumstances that there you have all drawn the conclusion that it was not a would be some other change in Government policy or penny more or less than what you were targeting. some other change in global circumstances, which if Mr Fisher, for example, you have talked about things could be precisely calibrated would lead one to wanting to support a further £25 billion of QE, so why say, “I think the bank rate ought to go up from”— did you not say, “Well, why don’t we then unwind one thinks of the days when this was normal—“5% to £12 billion to reach my £25 billion target”? Why was 5.1%”. Now, I think if the MPC were to do that sort £37 billion just the perfect number? of thing, people would say it was giving a degree of Paul Fisher: That was back in June and we precision to the sort of decisions that you cannot subsequently needed £50 billion, so that is past logically give a degree of precision to. Certainly I history. We have done much more since then. This did think had we been discussing the sort of asset not affect my vote at all. It is a relatively small purchases we have made, as you have observed, have number spread out over a long time next year. The been in bundles of £25 billion, £50 billion and so on, thing that weighed on me in our November meeting but that does not seem to me any reason for thinking, was the inflation data. I have been particularly “Therefore I need to top this decision up to £50 billion concerned about some of the growing risks of price or prune it down to £25 billion”. We make broad shocks, which do not come from domestic demand, as decisions because these things are not capable of a they would if it was QE that was underlying them. precise analysis. Other things will happen to the That was what held me back from voting for more. economy over the next few months and in the light of cobber Pack: U PL: COE1 [E] Processed: [09-01-2013 11:41] Job: 026006 Unit: PG01 Source: /MILES/PKU/INPUT/026006/026006_o001_db_TC 27.11.12corrected.xml

Ev 14 Treasury Committee: Evidence

27 November 2012 Sir Mervyn King, Paul Fisher, Dr Martin Weale CBE and Dr Ben Broadbent those, the MPC will decide perhaps that policy needs are doing here”. You could have had that conversation to be looser or that it needs to be a bit tighter, and in with the Treasury, but you chose not to. doing that, it will take account of the fact that this Sir Mervyn King: No, I do not think that the number is £37 billion rather than £50 billion. committee would have been remotely in that position. I think Ben and Martin have explained about trying to Q84 Andrea Leadsom: So did you consider at any say that the net effect is £11 billion or £12 billion. stage putting a toe in the water? Did you consider, After all, the £37 billion, as Paul mentioned, is not since your movements are normally £25 billion or £50 equivalent to £37 billion of QE in a way that we billion, what the impact might be if you were to say, would normally do it. We would normally—and have “We decided as a group £25 billion was the done so far—spell out a programme of asset purchases appropriate amount so we are going to unwind £12 over a period of three months. This £37 billion was billion of QE just to test the market”? As you said over a period of more than a year and that is different, yourself, Governor, we are in unknown territory when in effect. I think fine-tuning here is not something to it comes to the unwind, and it is entirely feasible that get into, and the risk of misleading communication interest rates will rise. It would be quite a good idea, would be enormous. I accept what the Chairman said, would it not, to test the market to show that you do that it is matter of regret that these announcements mean business and that the day for unwind will were not made at the same time. We can differ in view happen? Is that something you discussed at the MPC? as to whether it was a small regret. I think within a Sir Mervyn King: For the reasons that both Martin matter of hours, the Treasury made their and Ben gave, we do not discuss it in that degree of announcement. I do not think it had any significance, fine-tuning. When the time comes to tighten policy and I share Ben’s view entirely about what this means and sell assets, I think that will be a really difficult in the long run both for fiscal policy and for the moment, and it will be very important for the credibility of the MPC, but there is perhaps a small committee to prepare the markets for that decision in regret that we did not handle the announcements order to avoid a very large overreaction, which we better. saw in the 1990s in the case of the United States. They tried to raise interest rates from a low level after a Q87 Andrea Leadsom: A final question for Dr long period of low interest rates, and there was a very Weale and Dr Broadbent. Is it a matter of regret to big movement at the long end. That is why I said you that there is such a lack of diversity on the MPC? earlier that I think the challenge when we get to that Do you think that there is a risk of groupthink by point will not be so much the instruments we use as virtue of the fact that you are all men and all from a the judgment, the preparation and the communication, mainly economics/theoretical background rather than and that will be a very difficult moment. market practitioners? Dr Weale: Could I say first of all of course that the Q85 Andrea Leadsom: You have made that very appointments, or the external appointments, are clear, but my question was so why did you not use handled through the Civil Service. this unique opportunity to test unwinding some QE? Andrea Leadsom: Yes. I am asking you if it is a You normally move in £25 billion or £50 billion matter of regret, not whether it is your fault. figures. It would have been perfectly logical for you Dr Weale: What can I say? I am very happy with the to say, “We all prefer £25 billion and that is our colleagues that I have. I have not devoted my time to normal number, so we are going to unwind £12 billion speculating whether there might be other people on and see how the markets fare” because inevitably that some committee who would be even more fun to work would be constrained. It would have been an with. I am very happy with the colleagues— interesting toe in the water. Was it something you discussed? Q88 Andrea Leadsom: But I am asking you if there Sir Mervyn King: No, and I think it would have been is the risk of groupthink due to the lack of diversity. completely impossible to explain on the day itself, and Dr Weale: Sorry, could I come on to your question a decision to switch from asset purchases to asset sales about economists versus market practitioners? would have had a very big reaction and a big impact Andrea Leadsom: And diversity. on the market. Since we were not in a position to Dr Weale: And diversity. I think that, no, we are a explain why we would be sales at £12 billion, the group that has diverse views. The Governor made this market would not have known until the next day that point, and I have certainly observed and contributed to this was a decision for expansion rather than a wide-ranging discussions on the MPC where different tightening of policy. It would have been impossible people have different views. People have no trouble on that day to have done that. in voting against what they think the prevailing opinion might be. No, I have certainly never been Q86 Andrea Leadsom: So this goes back to my worried that I would find myself in a minority on accusation of you working in a silo, because obviously some occasions. Do I think that there is groupthink? I since the Treasury made the announcement about think the whole point of a committee is that you what was going on the following day, had you could discuss. I think it would be absolutely extraordinary if have had a conversation with them and said, “What I went to committee meetings with my ears blocked, we would really like to do is to use this opportunity refusing to listen to what my colleagues had to say. to test asset unwinding, and this could be a unique Indeed, that, as I say, is the point of a committee, opportunity, because nobody could misread what we rather than simply voting in disconnected way. cobber Pack: U PL: COE1 [O] Processed: [09-01-2013 11:41] Job: 026006 Unit: PG01 Source: /MILES/PKU/INPUT/026006/026006_o001_db_TC 27.11.12corrected.xml

Treasury Committee: Evidence Ev 15

27 November 2012 Sir Mervyn King, Paul Fisher, Dr Martin Weale CBE and Dr Ben Broadbent

On the issue of economists rather than market to innovate. Now, I do not have a clear sense of the practitioners, of course different members of the quantitative effect that people are attributing to committee have had different types of experience and zombie companies, but I would have thought in terms that adds to the intellectual diversity. I do think it is of an explanation of why the supply side has been important that people have an economist’s training so weak, it could only be one part of an overall picture. that they can think through the mechanisms. I suppose my worry might be that people who did not have that Q92 Mark Garnier: I appreciate that, but one of the sort of training may be perhaps over-influenced by frequent complaints that we get as Members of what the market view is of the right thing to do at the Parliament is that people with good ideas and new moment, but as I say, I am very happy with the businesses are finding it incredibly difficult to get colleagues I have on the committee. cheap credit, so the real credit out there is quite expensive if you want to go and get it. Yet we are Q89 Andrea Leadsom: Dr Broadbent, do you think now talking about zombie companies, and potentially that Mr Carney is— huge numbers of them, that are, if you like, mopping Chair: This will have to be a very quick question and up the supply of cheap credit in order to keep going. a very quick reply. It is quite an important factor, and what we are trying Andrea Leadsom: Do you think that Mr Carney will to do is get a handle on what you think about this, but be as happy to tolerate a complete lack of women on you do not seem to think— the MPC as the Governor has been? Dr Weale: Could I say on that of course the Funding Dr Broadbent: I have no idea. I will find out. for Lending scheme has very positive incentive to Chair: That sounds a short reply, and I am sure that banks to increase their lending. he has to keep up with what is going on in the Premier League if he is to have chance of surviving the Q93 Mark Garnier: Yes, but safe lending, and SME exchanges we have been having here. lending is very, very high risk lending. They are more Sir Mervyn King: He knows a great deal about it. likely to do it on mortgage money, aren’t they? Chair: You clearly know a good deal about his Dr Weale: I think that what you have said makes the qualifications for the job. point that what seems like a safe proposition to the Sir Mervyn King: I do. innovator or the person running the business looks Chair: As you have already pointed out. like a risky proposition to the person who is expected to put up the money. Of course, if someone runs a Q90 Mark Garnier: Dr Broadbent, can I turn to business that is on loan finance, they take the profits zombie companies? Spencer Dale noted that “the and the downside goes to the person who is doing the whole point of monetary policy loosening at the lending. I am certainly not saying that I can judge the moment” was to “keep companies who have a viable rights or the wrongs of the picture, but I certainly take long-term future in business while demand is the view that it is a bit more complicated than the temporarily weak”, but we have had this monetary view you may simply get from an entrepreneur. I loosening now for four years. Do you think we are remember a lovely story in the Financial Times a few not at the point where we are just keeping a lot of years ago—this was before the banking crisis really dead companies alive pointlessly? developed—of a couple in the Cotswolds who had a Dr Broadbent: It is difficult to say. We see aggregate business and could not raise money from the Bank, data and we do not have much information on what is and wasn’t this absolutely dreadful, and in the end going on under the surface. What is striking is how they had to put their own money into it. No, I am not few companies have gone bust. It may well be that saying that is necessarily widespread, but one does while one wants to keep any company that has a long- wonder about the various incentives and incentive term viable future in existence, others may have been structures, and I can quite believe at the moment kept in existence that do not have a long-term viable credit is very tight. What I find a bit harder to believe future, but that is very difficult for us to know is that the banks are not only letting zombie categorically. It is certainly difficult for us to companies that can just pay the interest on their debts distinguish between one and the other, and it is the keep going, but throwing good money after bad, point of a market economy to decide who survives tipping new money into zombie companies to keep and who does not, frankly. But it is possible, yes. them going. It is an issue that we are looking into and I would like to know more about. Q91 Mark Garnier: Dr Weale, do you have anything to add to that? Q94 Mark Garnier: So would we, which is why I Dr Weale: I can picture that there are companies am going to press you on that question. I completely going that otherwise would have had gone to the wall, take your point about a bank being asked to write a but in broad terms—in terms of economic call option on a business, which is essentially what performance—we have of course puzzled over the they are doing. They take all of the risk but none of issue of why the supply side of the economy seems the equity upside. But it still comes back to the weak. The zombie companies, by their nature, fundamental point about how we kick-start the presumably aren’t those companies that are making a economy. I might go back to you, Dr Broadbent, profit. You might think that the mere fact that because you are nodding. You have a number of successful companies are making profits would mean dynamics. There is only a finite amount of cheap that those are the sorts of companies that are in a credit available, and if all or a lot of that cheap credit position to expand and move into new markets and is being taken up by supporting zombie companies, cobber Pack: U PL: COE1 [E] Processed: [09-01-2013 11:41] Job: 026006 Unit: PG01 Source: /MILES/PKU/INPUT/026006/026006_o001_db_TC 27.11.12corrected.xml

Ev 16 Treasury Committee: Evidence

27 November 2012 Sir Mervyn King, Paul Fisher, Dr Martin Weale CBE and Dr Ben Broadbent then it is going to tighten up the supply elsewhere, Committee, and if you can be patient for just two which is where you need it—perhaps with more more days, the latest financial stability report and the dynamic companies. There is also a deeper problem views of the Financial Policy Committee will be in this, as I see it, which is the stability of the banks. published on Thursday and they will be saying more As long as these companies are servicing their debt— about that then. which they are, because the debt is very cheap and very cheap to run—they can get away with it. What Q96 Mark Garnier: That is very helpful. In we do not know is what the real shape of the balance anticipation of that, one other thing that has been sheet of these banks is, and I think it is incredibly suggested as creating zombie companies—I will use important that we get to some sort of answer on this. the expression, if you will forgive me—is companies’ Governor, you are nodding as well, and between the exposure to interest rate swaps. Given the fact that two of you who are nodding, I will be very interested there is a huge liability for those companies, since to hear more about your thoughts about the risk to interest rates are so low and they are obviously paying balance sheets, in terms of the lack of useful credit for quite a lot for interest rate swap products, the banks new innovators and in terms of the tying up of cheap are quite keen that those companies keep going, credit in companies that are not that productive. because of course the other side of the interest rate Dr Broadbent: I will let the Governor discuss the swap trade is the banks’ balance sheets. That in itself, banks, but I will just say, in stepping back a bit, that it has been suggested to me, has a colossal effect— we have long been puzzled by very low rates of tens of billions of pounds’ worth—on banks’ balance productivity growth. My own feeling for a while has sheets. I am just wondering if you have done any work been that there is a connection between that slow rate on that, and if the FPC will be— of productivity growth and the slow rate, or even Sir Mervyn King: I am not going to comment on any failure, of rebalancing the economy towards the of the numbers, because we are all in purdah as far as tradeable sector. That connection may lead to a the FPC is concerned. difficulty in allocating credit and other forms of Mark Garnier: Sure. finance efficiently across the economy. The difficulty Sir Mervyn King: But the point you raise, the general with all these things is having sufficient information one, is one of forbearance. Now, forbearance has two to say definitively, “It is this or that”. I think all of us dimensions. Good forbearance can take place when agree that even if it were possible at the end of the banks feel, “Look, this company does have a long-run day to explain precisely why productivity growth has future. Let’s not put it in a difficult position now”. been slower, it is unlikely to be due to any single Bad forbearance is where the banks do not insist on explanation alone. There are probably several things repayment, not because they care about the customer going on, but I have believed for some time that there but because they are worried about the implications is a connection between the problems in the financial for their own balance sheet, given the account system and the slowness both of rebalancing and of conventions under which banks operate. That is productivity growth. The difficulty of judging the undoubtedly a concern, because the issue is—and this risks on banks’ balance sheets may well therefore be is the fundamental question we will come back to on very important for productivity growth. Thursday—to what extent are the balance sheets Sir Mervyn King: I do not like the phrase “zombie giving an accurate representation of the underlying companies”. You raise some very important issues, but position of the banks? the problem with the phrase “zombie companies” is Mark Garnier: I won’t press you any more. Thank that when we had downturns in the 1980s and 1990s, you very much. we were really worried that companies that did have Sir Mervyn King: Thank you. a viable long-run future were being forced out of business because interest rates had gone up and they Q97 Chair: Governor, I am sure that you will accept couldn’t get enough finance from the banks to tide that our job, among other things, is to safeguard the them over their difficult circumstances. Now we seem independence of the Bank and particularly to to be worried about companies that ought to be forced safeguard the independence of the MPC, and whatever out of business not being forced out of business the reality, it is the appearance that your independence because interest rates are too low. might in some way have been prejudiced, even to a small extent, which has been of concern to a number Q95 Mark Garnier: If I may, it is about the timing, of us today with respect to the coupons and the the issue of the four years. decisions taken on them. I am sure you accept that, Sir Mervyn King: So I think the question you raise is and therefore I am hoping I will get a response from really about the adequacy of the supply of credit. you saying that you welcome the bolstering of your Rather than looking at the companies, it is about what independence with scrutiny of this kind. Do you agree is happening to the supply of credit. I think there have with what I have just said? indeed been difficulties, which is why we introduced Sir Mervyn King: Yes, and I think we are very the Funding for Lending scheme. I think that will grateful to this Committee for supporting our make a difference and it will be visible in 2013. independence. Your job is to hold us to account, you Now, the real challenge, as you point out, is once the scrutinise what we do, you cross-question us quite Funding for Lending scheme comes to an end. It has openly—and often ferociously—but you have always given us breathing space. We will then need to ensure been very strong in supporting our independence. I that the balance sheets of the banks are in a good think what we have said today is that we do not think shape, but that is something for the Financial Policy that in substance this operation compromised our cobber Pack: U PL: COE1 [O] Processed: [09-01-2013 11:41] Job: 026006 Unit: PG01 Source: /MILES/PKU/INPUT/026006/026006_o001_db_TC 27.11.12corrected.xml

Treasury Committee: Evidence Ev 17

27 November 2012 Sir Mervyn King, Paul Fisher, Dr Martin Weale CBE and Dr Ben Broadbent independence, but it is very important that we go I have an outstanding successor, but this is my 100th beyond that and ensure that not only is our appearance before a parliamentary Committee since I independence not compromised, which I think is the joined the Bank. case, but has not been seen to be compromised. That Chair: There was one point, Governor, when I was a also matters, which is your point. bit concerned, because shortly after you told us that Chair: Which might have been the case and which is you had seven months and three days to go, I noticed the cause of the source of regret. you pull out your watch. I thought you were going to Sir Mervyn King: Indeed. tell us many hours you had to go as well. Chair: Thank you very much for coming to give Sir Mervyn King: No, the watch does not quite give evidence today. It has been extremely valuable and the precise time to the second. I had another means of interesting. We have had a prolonged discussion on knowing that. one particular area, but I think it probably merited it. Chair: Thank you very much for coming. Sir Mervyn King: Can I thank you? This is a Sir Mervyn King: Thank you very much. memorable day for me. Not only do I know today that cobber Pack: U PL: COE1 [SE] Processed: [09-01-2013 11:41] Job: 026006 Unit: PG02 Source: /MILES/PKU/INPUT/026006/026006_w003_odeth_BOE-3-martin weale.doc.xml

Ev 18 Treasury Committee: Evidence

Written evidence

Report to the Treasury Committee by Mervyn King, Governor of the Bank of England

Past voting record and the outlook

Over the past year inflation has fallen sharply, while volatile headline GDP data have masked an underlying picture of stagnant output.

Our economy has faced an increasingly difficult external environment as the euro area has been engulfed by a crisis whose severity has become progressively more obvious. As a result, a black cloud of uncertainty has weighed on confidence, household spending, bank funding costs and business investment. That has been reflected in slower than expected output growth at home, and has prompted further easing-in monetary policy from its already exceptionally accommodative stance. With the Monetary Policy Committee (MPC) unanimous in voting to keep Bank Rate at 0.5% each month, that easing has been implemented via gilt purchases.

In broad terms, the policy debate has been framed by the question of whether there is room to stimulate the economy without posing an unacceptable risk to inflation in the medium term. I have taken the view that the slow growth of wages signals subdued underlying domestic cost pressures, despite weak measured productivity. The puzzling weakness of measured productivity is likely in part to reflect a large persistent—but not permanent—fall in underlying productivity relative to its pre-crisis trend. But in my view it is also likely that a recovery in demand would prompt a rapid improvement in measured productivity, implying a stronger case than otherwise for monetary easing.

A year ago, the MPC was part way through a programme of £75 billion of asset purchases that had begun in October 2011. The problems in the euro area were intensifying. CPI inflation was close to 5%, having been pushed up by VAT, energy and import prices. Although we expected inflation to fall back over 2012 as the effect of these temporary factors dissipated, there was considerable uncertainty around its path. Nevertheless it was reassuring that underlying domestic inflationary pressures remained subdued, with wage growth close to 2% and slack in the labour market, such that on the balance of risks inflation looked likely to be around target in the medium term.

Little had changed at the time of our December meeting. By January there had been an improvement in financial market sentiment prompted by the ECB’s longer-term refinancing operation. But, while this initiative reduced the immediate risks facing European banks, it did not tackle the fundamental problems of indebtedness and competitiveness in the euro area. At our December and January meetings I voted to continue with the announced programme of asset purchases.

At the time of our February meeting, inflation had fallen substantially, to 3.6% in January. Despite some signs of improvement in world activity indicators, the outlook for UK growth remained weak in the near term due to stagnation in the euro area. In our February Inflation Report we judged that, without further asset purchases, the slack in the economy would cause inflation to undershoot the target in the medium term. I therefore voted to increase the stock of asset purchases by £50 billion to £325 billion, which would be implemented over three months. At our March and April meetings the outlook had not changed sufficiently to warrant a change to this policy.

In May I did not vote for further asset purchases, although this decision was finely balanced. By June inflation had fallen further and the threat to UK and global activity from tensions within the euro area had intensified. The balance of risks to inflation had shifted to the downside, and I voted for £50 billion of asset purchases in both June (in a minority) and July (in a majority). Those decisions took into account the likely impact of the Funding for Lending Scheme and the activation of the Bank’s Extended Collateral Term Repo facility. At each subsequent meeting I have voted to maintain the stock of asset purchases at £375 billion. In November that decision took into account the effect of the Government’s decision to use the cash holdings in the Asset Purchase Facility to reduce the stock of government debt.

Looking ahead, policy continues to face some fundamental challenges. The economic outlook, described in detail in the November Inflation Report, is for a slow recovery in output with inflation above target for some time, but declining in the medium term. Underlying this outlook is an unfavourable external environment. Imbalances in the pattern of international spending remain. With surplus countries reluctant to expand domestic demand and deficit countries restraining domestic spending to reduce their debt ratios, we have a recipe for weak global growth. Such an outlook poses real challenges for our strategy of rebalancing the UK economy. It may be unreasonable to expect anything other than a slow and protracted recovery absent a further fall in the real exchange rate. In such an environment, there are limits to the ability of domestic policy to stimulate private sector demand as the economy adjusts to a new equilibrium.

Nevertheless, I stand ready to vote to adjust policy—in either direction—as the balance of risks to the outlook for inflation changes. In the event that further easing is required, I believe it appropriate to continue with our policy of purchasing gilts. cobber Pack: U PL: COE1 [O] Processed: [09-01-2013 11:41] Job: 026006 Unit: PG02 Source: /MILES/PKU/INPUT/026006/026006_w003_odeth_BOE-3-martin weale.doc.xml

Treasury Committee: Evidence Ev 19

Explaining Monetary Policy Over the past year, I have delivered six on-the-record speeches covering aspects of monetary policy and given four Inflation Report press conferences. I have appeared in front of the Lords Economic Affairs Committee once and the Treasury Committee three times to explain monetary policy (in addition to which I have made four other parliamentary committee appearances). I gave an extended live interview on Channel 4 News in September, and on average have made a televised appearance about once every three weeks. In addition I have made six regional visits around the UK, to the Central Southern region, the South East, the North West, the West Midlands, the South West and Wales. These involved numerous company meetings, events with local business people, and speaking engagements. The visits provide an important regional perspective to monetary policy, as well at the opportunity to explain the MPC’s decisions. I have had further opportunities to explain monetary policy in the many informal talks I give off the record. Over the past year, I have also attended many meetings of various different international bodies—the G7, G20, IMF, ESRB and BIS. November 2012

Report to the Treasury Committee by Paul Fisher, Executive Director for Markets, Bank of England Voting Record My previous report was in November 2011. As we entered 2012, the economy was weak, as I had feared when voting for more asset purchases the previous October. Output growth had already been broadly flat for over a year. Inflation had peaked in September 2011 and then started to fall sharply. However, I remained concerned by the possibility that the UK economy would slip into a deep recession, alongside continental Europe, and hence generate a significant risk of price deflation. By February, I thought this risk was sufficient to warrant a further £50 billion of asset purchases. During the Spring of 2012, inflation continued to fall, but not quite as fast as I had hoped. By June, the euro crisis was deteriorating further and the balance of risks to the medium-term outlook for inflation had shifted to the downside. At the June meeting I decided that additional asset purchases of £25 billion over two months was the right policy action, with a likelihood of more at the time of the August Inflation Report. A majority voted to leave the stock of purchases unchanged and other colleagues voted for an additional £50 billion. This is the first occasion on which I have been in a minority since I started on the Committee. I thought we needed to restart asset purchases to support confidence and to support other policies which were being pursued. At that stage I was uncertain as to what the total monetary impulse would need to be, but I expected it to be imparted over a longer period. Hence my vote for only £25 billion. By July, there were increasing signs that financial tensions in the euro area were affecting domestic growth, while inflation was continuing to fall. That reinforced my view that more stimulus was needed, notwithstanding that potentially significant effects could come from the Funding for Lending Scheme (FLS); the prospective relaxation of regulatory liquidity requirements; and the activation of the Bank’s Extended Collateral Term Repo Facility. In July, one month ahead of the August Inflation Report, I judged that it would be best to add £50 billion over four months and a majority of my colleagues agreed. The decision not to make more purchases in November was finely balanced. Further purchases would have been supportive of the FLS by continuing the flow of liquid assets on to banks balance sheets, and could have had useful confidence effects. But inflation was increasingly being supported by administered or controlled price rises which would not be determined by weak domestic demand (eg energy bills and university tuition fees). That means that the risk of price deflation is less, reinforced by the upward surprise in the October CPI, which we received during the meeting (but could not analyse in depth before its official release). The proposed transfer of APF coupon receipts to HMT did not affect my vote as the amount to be swept over the next three months is relatively small. I think it remains the case that we are more likely than not to need more monetary stimulus in future, but I will only vote for that if it is consistent with hitting the 2% inflation target in the medium term.

The Outlook Given extreme uncertainty over the supply side of the UK economy, predicting output growth has been extremely problematic. UK GDP growth should pick up modestly in 2013 as some—but only some—of the headwinds holding back demand in recent years abate. In the absence of further shocks, it seems likely that inflation will remain closer to target over the next two years than over the past two, and this should help support real income growth and consumption. In turn, that should incentivise businesses to increase investment. Growth should also be supported by an easing of credit conditions thanks in part to the FLS. But full pass through from lower funding costs via lower lending rates to higher lending to the real economy will take time. There are downside risks even to that subdued expectation. The situation in Europe remains the biggest single identifiable risk to the UK growth and inflation outlook. Resolution of the challenges posed by the banking crisis and sovereign indebtedness in the euro area will be difficult and take many years, despite the cobber Pack: U PL: COE1 [E] Processed: [09-01-2013 11:41] Job: 026006 Unit: PG02 Source: /MILES/PKU/INPUT/026006/026006_w003_odeth_BOE-3-martin weale.doc.xml

Ev 20 Treasury Committee: Evidence

policy measures announced so far. In the near-term, that will be reflected in heightened household and business uncertainty in the UK. In addition there are clear downside risks to global demand from the situation in the Middle East and slowing growth in some emerging market economies. Domestically, if firms and households want to repair their balance sheets further then recovery will take correspondingly longer. Despite the uncertainty over the outlook for activity, inflation seems set to remain not far from target unless there are further upside shocks. The weakness in the economy is keeping wage growth subdued, whilst administered/ controlled price rises are likely to prevent inflation falling significantly below target.

Explaining Monetary Policy Since I reported to you, I have given three on-the-record speeches. One of those discussed developments in financial markets, and monetary policy, focussing in particular on the FLS; another addressed the basics of the FPC (including the interaction of macroprudential and monetary policies); and the third outlined aspects of the Bank’s liquidity operations which enable both policy functions. Facilitated by the Bank’s Agents, I have visited many businesses and participated in roundtable discussions in Central Southern England, the East Midlands, Northern Ireland, Scotland and Wales. I have given interviews in national and local media and given a substantial number of off-the-record talks and presentations to a wide range of audiences. I led the press briefing for the FLS. I have also had numerous meetings and discussions with market participants to discuss developments in financial markets as part of the Bank’s market intelligence function which provides valuable information to both the MPC and the FPC. That included leading rounds of visits in London and in New York. I have also regularly represented the Bank in international meetings at the Bank for International Settlements. November 2012

Report to the Treasury Committee by Dr Martin Weale, External Member, Monetary Policy Committee

Voting Record During this period there have been three distinct phases of asset purchases. The first was to buy £75 billion of government debt; this began in October 2011 and was completed ahead of the February 2012 meeting. The second began in February and was to buy £50 billion. The third, also to buy £50 billion, was agreed in July and was completed ahead of the meeting in November 2012. I voted in favour of these rounds of asset purchases at the meetings at which the decisions were taken, and to maintain the stock at the relevant level at the other meetings. This meant that I was, on each occasion, voting with the majority of the Committee. After the asset purchases that began in February were complete, I voted, with the majority and against further asset purchases in May and June because I was concerned about the persistence of inflation. Despite these continuing concerns, I nevertheless voted for further asset purchases in July because it appeared to me that the economic situation had deteriorated both nationally and internationally.

These decisions were the outcome of two opposing factors. I thought that underlying inflationary pressures were somewhat stronger than those implied by the MPC forecasts in the period from November 2011 to August 2012. But I also took the view that, as I had said in November of last year for the first time, asset purchases probably provided a stimulus to output and inflation weaker than that assumed in the Bank’s analysis. This meant that I thought the overall monetary stimulus provided to the economy from our asset purchases, from the various influences such as the Funding for Lending Scheme, and most recently from the Treasury’s decision to use the interest accrued on our asset purchases to reduce the debt issue, were compatible with the inflation target. The main source of my concern about inflation was the risk that wage increases would, relative to productivity growth, be larger than would be compatible with the inflation target. After a long period of above- target inflation, there is always a risk that the credibility of the inflation target will be reduced, creating a situation where it becomes all the harder and more costly to keep inflation close to target. Nevertheless, I had initially expected a stronger productivity performance and faster wage growth than we have seen over the last year. Offsetting these concerns about inflation, the economy was also subject to substantial contractionary pressures and especially those arising from the effects of the crisis in the euro area. This had a number of influences. First of all, it directly reduced the demand for British goods in our largest export market. Secondly, it added to the general sense of uncertainty, and was probably a factor directly depressing investment and consumption spending. Thirdly, it pushed up bank funding costs, leading to higher interest rates to bank customers and a reduced willingness of banks to lend, affecting both households and firms. This background made policy action by the Bank desirable and it was with this in mind that I thought it right to support our asset purchase programmes. Starting in the summer, bank funding conditions have improved, helped by both improved market conditions in the euro area and the Bank’s Funding for Lending Scheme (FLS), but the improvement has not been so marked as to justify any reversal of the policy stance. cobber Pack: U PL: COE1 [O] Processed: [09-01-2013 11:41] Job: 026006 Unit: PG02 Source: /MILES/PKU/INPUT/026006/026006_w003_odeth_BOE-3-martin weale.doc.xml

Treasury Committee: Evidence Ev 21

The Current State of the Economy The November Inflation Report broadly represents my view of the growth prospects of the economy with a gradual move towards more normal economic growth. In the current quarter I would not be surprised if real GDP fails to grow, or contracts somewhat. Looking into next year, the positive sign from the lower cost of bank funding, combined with the fact that the FLS provides a strong incentive for banks to expand their lending, points to some improvement. The impetus from this may then trigger a gradual revival in investment with further support coming from an improved international situation. But associated with the economic stagnation has been an unparalleled period of stagnant or falling productivity and more normal growth will not be possible without a return to productivity growth. There has to be some risk that the recent economic stagnation will continue. The weak productivity performance is probably accounted for by a number of different factors. One influence may be that, although employment has been rising strongly, the labour market is nevertheless not offering the same opportunities for career advancement as before. Other contributions come from the fact that investment has been weak and the North Sea oil production has been declining. It is also possible that low rates of interest, compared to previous recessions, have meant that inefficient firms have been able to carry on operating, while, at the same time, a limited supply of credit has made it difficult for new businesses to establish themselves and expand. Some of these factors, but not all of them, should abate if demand starts to expand. But it is not possible to be confident as to how far an increase in demand will be matched by a corresponding increase in supply and how far it will add to inflationary pressures. The resilience of inflation while the economy has been so weak has proven to be a major challenge. While inflation may rise further in the near term, under the influence of increased prices of domestic energy, in the medium term I expect to see a drift back towards the target. It is, nevertheless, more likely than not to remain above target for much of the next two years. The reality is that there is a range of what might be termed administered prices, which may not be very sensitive to the balance between supply and demand. If these continue to rise at above the target rate of inflation, then other prices have to rise less rapidly for the target to be met. In turn this creates a risk that policy will need to be tighter than would otherwise be the case.

Activities During the course of the year I have wanted to explain my continuing fears about inflation and also to communicate my views on quantitative easing. Since my previous report I have: — Made four public speeches discussing economic circumstances and commenting on structural issues. — Undertaken ten regional visits. — Made thirty-five visits to companies as a part of these. — Talked to twelve business groups. — Given interviews to the Daily Mail, Les Echos, Sky News, Radio 4, Bloomberg and Dow Jones as well as regional newspapers and local radio stations.

Activities Speeches 2011 NIESR talk (filmed by Bloomberg)—25 Nov* 2012 Cass Lecture—29 February Hart Brown—21 June Manchester Economics Seminar—21 Nov Inflation Report Briefing University of Bath Economics Society—14 March University of Ulster—22 March London Oratory School—28 March Investment Club Queen Mary University—11 April York—17 May West Midlands—14 Aug Northampton University—15 Nov Relevant Academic Events Panellist at EUI nomics Workshop—27 Apr Royal Statistical Society—Presentation on Housing in the CPI—15 August ESRC Conference on the Future of Macroeconomics—Presentation on Data Needs—2 October Interviews *Bloomberg World at One cobber Pack: U PL: COE1 [E] Processed: [09-01-2013 11:41] Job: 026006 Unit: PG02 Source: /MILES/PKU/INPUT/026006/026006_w003_odeth_BOE-3-martin weale.doc.xml

Ev 22 Treasury Committee: Evidence

Les Echos Daily Mail Sky News Dow Jones Regional interviews Bath Chronicle Yorkshire Post/Scarborough Evening News BBC Radio West Midlands Birmingham Mail Radio Scotland The Herald Surrey Advertiser Business Groups Clare City Dinner Fathom Consulting Barclays Capital North East Chamber of Commerce EEF, Surrey MWMG & Whittingham Riddell Downtown Liverpool in Business CnES Causeway Chamber of Commerce North East Chamber of Commerce Panel members Federation of Small Businesses (Northampton) Highlands & Islands Enterprise Agency visits—35 visits to companies South West—13–14 March Northern Ireland 22–23 March North East—25–26 April Yorkshire & Humber—17–18 May Central Southern—21–22 June West Midlands—13–14 Aug Scotland—23–24 Aug Wales—24 October East Midlands—14–15 Nov North West—21–22 Nov November 2012

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