It's the System, Stupid
On the front of today's Guardian newspaper is an article about the Bank of England, inflation and interest rates. To partially quote it:
One of the first things that the new Labour government did after being elected in 1997 was to make the Bank of England independent and give it a target to keep inflation below 2 per cent. The mechanism to do that was to change the Bank of England base rate of interest.
This is not an article about economics, I am not an economist, but even then that struck me as simplistic. The Bank must keep inflation at 2 pc and the only lever they can pull is interest rates. What about balance of trade, house prices, world commodities, credit and financial markets. They can't change the tax system, print money or borrow.
The UK economy is buffeted externally by world events, international speculators, trade relations and a myriad other things. Domestically 60 million people make economic decisions every day. Not to mention government policy about tax and borrowing.
So does anyone really think that the Bank of England can control inflation by changing interest rates? I don't.
I think the government should take back the setting of interest rates. The argument that you bring back political influence is a slim one when they still have control of tax, money supply and how the budget is spent. They should look at the system as a whole and do their best with it. Actually, an almost impossible job, I think.
But thinking that the "interest rate" lever is directly connected to the "inflation" read-out is plain silly.
The lesson for other organisations (which have to deal with much simpler systems than the UK in a world economy) is not to make the same mistake of attaching one single input to a single output. Even simple systems do not usually work like that. You must conduct controlled experiments and measure the outputs and look out for unintended consequences. And remember always measure against the purpose of the system (to serve the customer, in the case of a company).
Also, what is this stupidity of sending of a letter to explain what has happened? That will fix it!
The government is on inflation alert amid fears that dearer petrol and food will herald the start of a year of bad news on the cost of living and limit the Bank of England's ability to cut interest rates.
...An explanatory letter from the governor to the chancellor is required once a quarter for as long as inflation is more than a percentage point higher or lower than its target. Speculation has mounted in recent days that today's figure will edge up from 3%.
This to me is a classic example of not thinking about a system as a whole.
One of the first things that the new Labour government did after being elected in 1997 was to make the Bank of England independent and give it a target to keep inflation below 2 per cent. The mechanism to do that was to change the Bank of England base rate of interest.
This is not an article about economics, I am not an economist, but even then that struck me as simplistic. The Bank must keep inflation at 2 pc and the only lever they can pull is interest rates. What about balance of trade, house prices, world commodities, credit and financial markets. They can't change the tax system, print money or borrow.
The UK economy is buffeted externally by world events, international speculators, trade relations and a myriad other things. Domestically 60 million people make economic decisions every day. Not to mention government policy about tax and borrowing.
So does anyone really think that the Bank of England can control inflation by changing interest rates? I don't.
I think the government should take back the setting of interest rates. The argument that you bring back political influence is a slim one when they still have control of tax, money supply and how the budget is spent. They should look at the system as a whole and do their best with it. Actually, an almost impossible job, I think.
But thinking that the "interest rate" lever is directly connected to the "inflation" read-out is plain silly.
The lesson for other organisations (which have to deal with much simpler systems than the UK in a world economy) is not to make the same mistake of attaching one single input to a single output. Even simple systems do not usually work like that. You must conduct controlled experiments and measure the outputs and look out for unintended consequences. And remember always measure against the purpose of the system (to serve the customer, in the case of a company).
Also, what is this stupidity of sending of a letter to explain what has happened? That will fix it!
posted by Rob Worth at 10:46 AM
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