Ben Bernanke called on the Bank of England to consider publishing its own outlook for UK interest rates to improve the central bank’s forecasts and communications with investors and the public.
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(Bloomberg) — Ben Bernanke urged the Bank of England to consider publishing its own outlook for U.K. interest rates to improve the central bank’s forecasts and communications with investors and the public.
The former Federal Reserve chairman said the BOE should release scenarios showing the best path to achieving the 2% inflation target if market interest rates or unchanged policy confuse its message. The proposal was accompanied by 12 separate recommendations that Bernanke made in an 86-page report on the way the BOE presents its economic outlook.
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He added that the BOE’s forecasts urgently need an update and that it should do away with the fan charts that have been at the heart of its policymaking for more than two decades. He stressed that policymakers should be “extraordinarily clear” if they believe that market expectations for borrowing rates “are at odds with their assessment of the outlook.”
The findings conclude a nine-month investigation launched by the BOE after lawmakers from across the political spectrum and independent economists criticized the institution for being slow to address the worst wave of inflation in four decades.
Bernanke said the BOE could learn lessons from the experience, but concluded that its forecasts were no worse than those of other major central banks or private sector economists. While the BOE’s forecasts “actually deteriorated significantly,” the recent challenges it has faced are “not unique,” he said.
BOE Governor Andrew Bailey welcomed the report and said he would seek a “one-off” overhaul of the bank’s practices. He said officials were “committed to taking action” to implement all 12 of Bernanke’s recommendations, but it would take time and further consultation to develop detailed plans.
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The BOE said it will provide an update on what changes it will make by the end of the year. Clare Lombardelli, who will join the BOE as deputy governor for monetary policy in July, will lead the response. The changes will be introduced gradually.
Bernanke did not recommend that nine members of the Monetary Policy Committee prepare their interest rate forecasts, as Fed rate setters do with the “dot plot” forecasts he introduced at the Federal Reserve.
“I think the right model would not be the Fed’s dot plot because the Fed doesn’t have the consultation of staff and policymakers like the Bank of England does,” he said. “If the bank were to go in that direction instead, probably central banks like those in Sweden, Norway, Canada, New Zealand, etc. would be a better model.”
However, he said the BOE should also release alternative scenarios alongside its core forecast, a recommendation the central bank has pledged to take action on. “Alternative scenarios would help the public better understand the reasons behind the policy decision,” he said.
“One thing to consider in the long run is to have your own forecast for interest rates,” Bernanke told reporters in a briefing before the review was released. Using current conventions may “lead to an obfuscation of the interpretation of what the committee is trying to say.”
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He dismissed claims that markets would accept any interest rate path published by the bank as an ironclad commitment. “While experience shows that financial markets listen and pay attention to interest rate forecasts, they certainly do not view them as a commitment or absolute certainty. We know that from the Fed,” he said.
In addition to a key forecast based on market trends in interest rates, he said the BOE should release at least one alternative policy scenario and one or two possible risk scenarios. These could be used to indicate the interest rate path that the MPC believes is most likely. The bank said it would review this recommendation.
The proposal appears to be similar to how the Swedish Riksbank operates. It publishes a key forecast for the economy, supported by alternative scenarios and providing policy paths in the event of weaker or stronger inflation.
Parts of the review were negative about the BOE’s economic models, infrastructure and communications. The software and models used to create the forecasts are “outdated” and “not adequately maintained.” He said “makeshift fixes” had resulted in an unwieldy and inflexible system that limited staff’s ability to conduct useful analysis.
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Bernanke recommended that the BOE replace or fundamentally revise the economic model underlying its forecasts. This will require a “significant increase in staff time and resources.” Bailey said the upgrade was underway as part of a £30m investment in its software and systems.
The former Fed chair said fan charts – which show a range of probabilities around their key forecasts – should be “eliminated” because they “convey little useful information.”
Since the review began last July, inflation has halved from 6.8% to 3.4%, according to the latest data for February. The Bank of England (BoE) expects to fall below its 2% target in April data, although it is still shying away from declaring a victory because of ongoing underlying pressures and rapid wage growth.
Several BOE rate-setters have expressed doubts about the introduction of Fed-style dot plots in the UK. Bailey said he was “ambivalent” about dot charts, while outside rate setter Catherine Mann said the BOE was doing better than them by disclosing individual votes and then giving speeches and interviews. Megan Greene, another outside policymaker, warned that markets “do not understand dot charts the way they are intended.”
(Updates with Bernanke quotes and details.)
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