Through history, one of the sharpest of all political dividing lines has been that between debtors and creditors. You can trace it right back to ancient Babylon, and it’s regularly flared up ever since. Think of William Jennings Bryan’s fiery rallying 1896 cry on behalf of the indebted American farmers being crucified on a “cross of gold,” by which he meant the high borrowing costs associated with the gold standard. Or of Britain’s unbending Conservatives between the wars, doubling down on a promise of “sound money” to those with savings in the bank, no matter how depressed the economy became under the weight of debt.
On this long view, the success of the project to take the politics out of money over the last generation—by making central banks independent—ranks as remarkable and unexpected. After today’s controversial British rate rise, the question is whether it is a project that will soon run out of road.
Bound up with the nationalisation of the Bank of England in 1946, which put interest rates firmly in the chancellor’s hands, was the understanding that since there would always be winners and losers from monetary policy, it was not something which could be insulated from democracy. Rather, like taxation, it was something that politics would have to settle. Unlike certain other nationalisations of the day, such as steel and road haulage, it wasn’t especially contentious. Through the post-war era, few imagined this move being reversed.
Even when inflation ran out of control in the 1970s, those parts of society who saw it eat into their savings didn’t seek to work around politics, but instead resolved to prevail through it. And they duly did, when Margaret Thatcher and her first chancellor Geoffrey Howe jacked up interest rates to the point where thousands of factories shut their doors at a cost of millions of jobs, with the eventual reward of more stable prices.
But in parallel, pointy-headed professors were dreaming up theories that rationalised putting the soundness of money beyond the reach of the madding crowd. The idea was that, just like Ulysses being tied to the mast so he could safely savour the song of the sirens, those charged with running the economy would ultimately steer it into a sweeter spot if they were somehow bound to resist popular pressure for short-term relief.
Like many theories in economics, there was something in it—for some times and some places. And it eventually came to shape the running of the British economy, a departure that took place in two stages. First, Tory chancellor Ken Clarke committed himself to a particular goal of low inflation, and to publishing the advice he received from the Bank of England about interest rates, to restrain the short-term political temptation of departing from the technocratic approach. Secondly, immediately after the 1997 election in which the idea had barely surfaced, Tony Blair and Gordon Brown legislated to hand formal control to the Bank.
As the economy boomed, this came to be seen as a masterstroke. The long-term interest rates which matter for investment remained reliably low, while inflation was without difficulty kept under control by shifts in short-term rates. Things could have come unstuck in the crisis of 2008/9, but they didn’t. Looking back, that is probably because the risks were very clearly on one side. Credit was drying up; it was on the Bank to make things easier—and not fret too much about the immediate uncertainties this implied for inflation. After a wobbly start, in which most of the rate-setters struggled to realise that a slump was upon them, the technocrats eventually showed themselves to have enough political savvy to grasp this.
They cut rates to the floor, and minted electronic money (through so-called “quantitative easing”) with abandon. Such was the consensus around independent central banking that even when the Labour Party fell into the hands of the radical socialists Jeremy Corbyn and John McDonnell, they did not propose to end it.
Rather suddenly, however, I sense that all that was solid melting into air. For the risks involved in setting interest rates are no longer only in one direction: inflation is rocketing in painful ways, yet at the same time consumer confidence is plunging in a way which strongly prefigures recession. That was the dilemma that confronted the Bank of England today, and it ultimately decided to give more weight to the first problem than the second by jacking up rates by 25 basis points, to their highest level since 2009.
We are rediscovering how, just like in the 1970s, when energy costs spike, it is possible to endure both stagnation and inflation at once. People who can usually agree on the right time to ramp up or cool down the economy suddenly find themselves at loggerheads. Witness the disagreement between two smart and progressive former rate-setters, Adam Posen and David Blanchflower, both friends of each other—and of Prospect. Posen has reluctantly concluded that the only way back to stable prices is to make the economy smaller, whereas Blanchflower rejects a recession of choice, because of what it means for those who will lose their jobs and out of the fear of an uncontrolled deflationary spiral.
My purpose here is not to try and settle that argument, merely to point out that this painful dilemma is one in which pretty much everyone—not just economists—is liable to have strong views. The Bank of England will find itself making choices which can only make enemies. And I wonder how the idea that it is above the political fray can be sustained if large parts of population come to view it as a demon.
