The credit squeeze has thrown a spotlight on the competence and credibility of central banks, but economists are divided on whether it should change their focus.
Two of the five former monetary policy committee members who answered the question were adamant it simply introduced new factors into the assessment of the economic outlook. Three intimated central banks needed to pay more attention to financial stability issues. The prevailing view among the 48 respondents, however, was that, while central banks’ job remained the same, it had become more difficult.
Summarising the dilemma, Peter Dixon at Commerzbank said their usual role of stabilising the economic cycle was complicated by that of “shoring up the stability of the world financial system without appearing to bail out failed institutions”.
About a third of the economists said persistently wider spreads between official and market rates meant central banks’ main tool of setting interest rates was less powerful. Several thought it had also become more difficult to assess credit conditions.
Neil Blake at Experian likened their current job to “pushing on a piece of string” while Ian McCafferty at the CBI employers’ body said credit flows were being determined “less by price and more by the level of confidence within the banking system”.
Several argued this meant central banks needed to use a wider range of tools, including more co-ordinated actions, and Sushil Wadhwani, the hedge fund manager and former MPC member, said market dysfunctions were “not merely an issue for liquidity operations, but also relevant to monetary policy decisions”.
“Central banks will have to be more like plumbers . . . to ensure that changes in interest rates actually feed through to the real economy,” said Keith Wade at Schroders. “Unblocking the financial sector is key to this.”
Diane Coyle at Enlightenment Economics said policymakers should “think much more carefully about flows of information and transparency in the markets, because the price signals in interest rates . . . won’t work properly if these are inadequate”.
Rob Carnell at ING was one of three respondents who suggested central banks should take earlier action to prevent asset bubbles, saying a policy of “mopping up the mess” had proved “woefully inadequate”.
But although many think central banks should pay more attention to markets, only a minority want financial stability to become central banks’ main focus.
Mike Wickens at York university said current events were “a problem . . . waiting to happen” since the legislation set the Bank of England the primary task of controlling inflation.