Ec 111 week 4(1)


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Ec 111 week 4(1)

  1. 1. EC-111 British EconomyRecent UK MacroeconomicTrendsDr Catherine RobinsonF26, Richard Price BuildingOffice Hours: Mondays 10.30-11.30 and Thursdays 9.30-10.30Appointments:
  2. 2. Margaret Thatcher (1925-2013)Week 4:12
  3. 3. Today… We begin from 1997-ish Focus on the changes that the New Labour Governmentbrought in Institutional changes Policy focus What did the UK look like? Employment, prices, balance of payments, economicperformance? What about macro policy? After leaving the ERM, what filled the void?Week 4:13
  4. 4. Post ERM For the rest of Europe, it was business as usual A strong belief in a stable European currency, pegged to theGerman Deutschmark Not all plain sailing; Spain had to devalue also but remainedin, Italy left and then rejoined For the UK, a medium term framework was still viewed asimportant Successful because it influenced expectations A clear-cut policy stance allows for planning A belief that stable and predictable policy will lead to longerterm prosperity INFLATION TARGETINGWeek 4:14
  5. 5. Inflation targeting continued 1995 – 2.5% inflation became THE target Bank of England required to produce a quarterly report – the Inflation Report Contains charts, forecasts and general information on the performance of the economy: Money, interest rates and exchange rates Demand and output The labour market Costs and prices (Monetary policy) Prospects for inflation Minutes from MPC meetings The first real Inflation Report of the Labour Government is still available online: Subsequent ones are also available…here’s the link to the latest… 4:15
  6. 6. Week 4:16
  7. 7. New Labour innovations Election in May 1997 saw: Hangover hair…. Bank of England independenceWeek 4:17
  8. 8. Bank of EnglandIndependence 1998 Bank of England Act Made the Bank accountable to parliament and the wider public –(NOT the government) In extreme circumstances, the government can instruct the Bankfor short periods of time Responsibility to set interest rates Creation of the Monetary Policy Committee Who set the interest rate Objectives of the BoE: To deliver price stability To support the government’s economic objectives for economicgrowth and employmentWeek 4:18
  9. 9. But the Chancellor still sets theparameters.. Identifies the target inflation rate in his annual budgetstatement Currently set at 2% (previously 2.5%) Too low inflation seen as a problem as much as toohigh….take now for exampleWeek 4:19
  10. 10. The MPC – June 2011
  11. 11. Current MPC (2013) Sir Mervyn King, GovernorCharles Bean, Deputy GovernorPaul Tucker, Deputy GovernorBen BroadbentSpencer DalePaul FisherDavid MilesIan McCaffertyMartin WealeWeek 4:111
  12. 12. Monetary Policy Committee Experts in the field of economics and monetary policy Independent Each member has a vote to set the interest rate at a level they think will bestachieve the target level of inflation One person, one vote Treasury representative sits in May discuss issues, but doesn’t vote To ensure the MPC is fully briefed on current fiscal policy and other aspects ofgovernment policy Feeds back to the Chancellor Meet monthly, but receive Bank briefing throughout Half-day meeting – pre-MPC on the Friday before the settingWeek 4:112
  13. 13. Meetings 2-day meetings Begin with an update of recent economic data Identify issues for discussion Day 2 – MPC members explain their position Governor puts his favoured view to the meeting One which he thinks has the greatest degree of support MPC vote Minority view has an opportunity to clarify their position andtheir preferred outcome – minuted Interest rate decision announced at 12noon the following dayWeek 4:113
  14. 14. Public accountability Minutes are published a fortnight later Highlight all the different views and votes Blanchflower was in favour of cuts before the financialcrisis hit… Committee has to explain its actions regularly toparliamentary committees Especially the Treasury CommitteeWeek 4:114
  15. 15. Missed target In the event of the target being missed by more than 1percentage point (either way), the Governor has towrite an open letter to the Chancellor To explain why inflation is where it is and what the Bankplans to do about it The MPCs job is to maintain price levels withoutcreating undue instability within the eocnomy Remit lettersWeek 4:115
  16. 16. ..and fiscal policy? to support monetary policy Required because of the convergence criteria from theMaastricht Treaty, for fiscal policy for monetary union EU Stability and Growth Pact PSBR should not exceed 3% of GDP Total public debt should not exceed 60% of GDP Whilst not binding, the UK was comfortably meeting thesecriteria by the mid 1990s Not especially pro-European, more consistent with thepassive fiscal policy of the ‘monetarists’Week 4:116
  17. 17. New Labour Innovations Two fiscal rules: Share the burden of public spending fairly betweencurrent and future tax payers No bias against investment spending if policy had to betightened Keep public finances on course to be sustainable THE GOLDEN RULE SUSTAINABLE INVESTMENT RULE Enshrined in the 1998 Finance ActWeek 4:117
  18. 18. 1998 Finance Act ‘Code of Fiscal Stability’ Any government must spell out how it intends to run fiscal policyand publish twice yearly forecasts illustrating how the setting ofpolicy at any given time is consistent with its approach Growth in importance of macro modelling Up to the government whether to set itself operating rules and todecide if they’ve been kept No penalty if missed though GOLDEN RULE Government will only borrow to fund investment Tax revenues should equal or exceed current spending Future taxpayers should only be asked to repay debt from whichthey are likely to benefit – fairness provisionWeek 4:118
  19. 19. Golden rule continued… It limits current (not overall) spending Reducing incentive for policymakers to make cuts inpublic investment when spending plans have to be cut Traditionally, government cuts have fallen on theinvestment rather than current side Where genuine economies are more likely to be madeWeek 4:119
  20. 20. Sustainable investment rule Public sector debt should be kept at stable and prudentlevels Public sector net debt must be below 40% of nationalincome (at the end of every fiscal year of the currenteconomic cycle) When a government borrows to fund an investmentproject, it effectively taxes in the future to fund borrowingcosts Sets a ceiling on funding today’s investments bytomorrow’s taxpayers More fair?Week 4:120
  21. 21. In summary Has it worked? Well, Chancellors 1993 until 2007 were very capable ofprudent economic management Exceptional global economic stability over this period Remit letter stating action was not required until 2007 Is inflation the key to stable macroeconomic policy? A role for expectations? And in the cold light of the financial crisis?Week 4:121
  22. 22. And since the coalition? Last month, the Chancellor, George Osborne, changedthe remit of the MPC Offers them a little more flexibility in targets So far, no noticeable change in the MPC’s behaviour.. Despite some dissent, they have chosen to keep things thesame this month A (significant) minority wanted to introduce a further QEround They forecast inflation as being around 3% mid-year andhighlight threats from the Euro Zone crisis and thegovernment’s fiscal squeeze Yesterday’s unemployment figures for the UK showed a risefrom 7.8 to 7.9%Week 4:122
  23. 23. Tomorrow… Focus on the supply-side a bit and explore what hasbeen happening to productivity since the 1990s US productivity miracle The current productivity paradox Next week: macro policy since 2007: the financial crisisWeek 4:123
  24. 24. ReferencesWealth of information on the Bank of England website:The Monetary Policy Committee: 10 years on They have good working papers too, although quitetechnicalBarrell, R. and M. Weale (2003) ‘Designing and choosingmacroeconomic frameworks: The position of the UKafter four years of the Euro’, Oxford Review ofEconomic Policy, 19 (1), 132-148.Week 4:124