Central banks’ forward guidance doesn’t always map the route
LONDON — After the financial crisis rocked the framework of monetary policy, rate setters took to giving “forward guidance” to steady the ship, but the recent experience of British and Japanese central banks suggests it doesn’t guarantee a smooth journey.
Just a few weeks ago markets and economists were convinced the Bank of England was all set to hike interest rates on May 10, until Governor Mark Carney gave a surprisingly dovish interview and suddenly all bets were off.
In just a couple of weeks, the pound tumbled 7 cents against the dollar and, in probably the most dramatic turnaround in Reuters polling history, virtually every economist in a panel of more than 60 changed their forecast.
In theory, forward guidance smoothes the outlook, mitigating risk for businesses and financial institutions, and helping to spur investment. It also is supposed to make it easier for the general public to plan their personal finances.
The problem is, not following through with it can stoke even more confusion.
“Carney rather jumped the gun in hinting there was very likely to be a May hike and he had to row back because the data turned out to be slightly different to what they had anticipated,” said Andrew Kenningham, chief global economist at Capital Economics.
“I would think Carney will be a little bit more careful about what hints he drops in future.”
And this was not his first such experience. Carney was dubbed an “unreliable boyfriend” by a lawmaker in 2014, accused of giving inconsistent messages on the outlook for interest rates.
Treasury Committee member Pat McFadden said at the time businesses and consumers had been “left not really knowing where they stand” by statements made by the Bank.
“The only people who throw that term at me are in this room,” Carney retorted in a testy exchange with journalists at a news conference on Thursday, trying to turn the discussion toward the Bank’s stated primary audience, households and businesses, not the financial markets and media.
“They expect us not to be on some pre-set course. They expect us to be prudent, not passive, and so if the situation is appropriate we will adjust policy,” Carney said. So why give guidance? Statements from central bankers are always going to be scrutinized by financial professionals, word by word, for any changes in nuance.
“You need to give some guidance to markets as to how you are going about decisionmaking,” said Capital Economics’ Kenningham.
“In terms of speeches... perhaps governors need to be a bit more careful than other members of the committees about expressing views because markets will jump on anything they say as being more definitive than it is.” —