Scrap OBR and Bank of England independence
Threadneedle Street’s purpose should be to support economic growth, not to make forecasts
As I listened to the Chancellor present the Budget last week, I thought that he did a very elegant job of coping with a very difficult global backdrop, although I would have much preferred significantly greater tax cuts – at least 2p off income tax over and above his employee National Insurance cuts, for example. But he was clearly boxed in by a seriously dysfunctional policy architecture.
It is perfectly understandable that Jeremy Hunt is cautious of unnerving the markets in the aftermath of Liz Truss’s disastrous mini-budget.
The problem is that the OBR forecasts, swallowed by the markets as unerringly authoritative, turn this handicap into a set of policy shackles.
The trouble is that the OBR’S forecasts are alarmingly inaccurate. In 2022 the OBR’S UK borrowing forecast was over £100bn off the mark.
A report on the OBR by the Conservative Way Forward campaign group has recently suggested that, since 2010, the combined total of the OBR’S errors in growth forecasts aggregates to a figure of over £500bn, and the OBR’S errors in forecasting public sector net borrowing accumulate to over £600bn.
When the Treasury talks about headroom, it is based on the fiscal rule that requires national debt to decline as a proportion of GDP in 2029. In effect, it is basing our economic strategy on the difference between two guesses about what will happen at the end of the next five years – guesses that have historically not been proven correct. You could see this in action as newspapers in the last few months reported “headroom” figures shrinking from £30bn to around £9bn for no obvious reason, dramatically limiting the options available to the Chancellor.
In addition to the previous error margins, the simple fact is that these forecasts are incredibly sensitive to tiny changes in assumptions. You can pick a range of sensible assumptions which will none the less give massive discrepancies in outcomes.
In practice, each forecast carries a different suite of risks. The Chancellor ought to be able to choose which assumptions he wants to input and, in essence, which risks he wants to take on and which policy aims he wants to adopt.
Further exacerbating this issue is the fact that the OBR and Bank of England themselves work off different assumptions and forecasts. Not only have their forecasts been wrong, but they are wrong in distinct ways. What sort of organisation can operate on two separate and entirely incompatible sets of assumptions? If a listed company ran its production arm off one set of assumptions and its marketing arm off another, shareholders would rightly revolt. If I had my way, I would input assumptions encouraging more demand, increased productivity and growth, rather than the ones that could lead us into an austerity spiral with low growth for several years – which appears to be the Bank of England’s preferred approach.
It is not just the Bank’s forecasting that distorts our economic policy, it is its very mission. The UK (and the rest of Europe) has pitiful growth rates compared to the US. A major contributory reason for this is that the requirements of the Federal Reserve Board, the US central bank, do not orbit solely around targeting inflation at 2pc at the cost of all else, as the Bank of England’s do. It must take on board growth objectives as well in its policy generation. It is not even as though the Bank of England has been successful in reaching this limited aim, with forecasts failing to predict the worst inflation crisis in generations.
The origins of the Bank’s independence are, in fact, political, not economic. This independence was granted in 1997; done in large part to mitigate fears of an incoming Labour government acting financially irresponsibly.
While it was very successful in that regard, there is no indication that its decisions have been any better since then than before Labour came into power. Margaret Thatcher and Nigel Lawson made better decisions than every government since the independence of the Bank was established.
The OBR, in conjunction with the Bank of England, effectively hems in our government, making it impossible for the economy to escape the debt trap it faces owing to the everincreasing cost of servicing its current debt. The only solution is to dramatically boost productivity.
Paradoxically that might involve some short-term deficit financing.
The only way to do this is by increasing public investment to ensure businesses have the environment and infrastructure to thrive.
The Bank of England’s purpose should be rebalanced to support economic growth. We should go back to the period in our history when forecasters were greeted with healthy scepticism rather than a final sign-off on the direction of our government’s economic policy.
Nigel Lawson famously disbelieved all forecasts. Today there is a strong argument that the institutional structure of our decision-making is flawed, and it is time to finesse and, in some cases, abandon these rules.
We should abolish the OBR, bring the Bank within the Government’s policy framework, and liberate the Chancellor to deliver the best policies he can for Britain.
‘It is not even as though the Bank of England has been successful in reaching its limited aim’