The Story from the Inside: In This Exclusive Account of Decision-Making at the Bank of England, David Blanchflower, Who This Week Joins the New Statesman as Our Economics Columnist, Reveals How Mervyn King's Mistakes Made the Recession Worse
Blanchflower, David "Danny", New Statesman (1996)
The risk of a long-lasting economic depression is not over. There have been some positive signs recently, and the worst may be behind us--but we should not get too carried away. Retail sales have risen a little and there are some positive signals from the housing market. There was even some evidence of positive GDP growth in France and Germany. Nonetheless, in the United Kingdom, money supply growth remains weak, banks are still not lending and mortgages are hard to come by. The latest surveys for construction and manufacturing still show contraction. Negative equity is on the rise, as are mortgage defaults. Unemployment is climbing fast and a million jobless young people under the age of 25 are in danger of becoming a lost generation.
One year on from the financial crash and the ensuing recession, the question remains: how did we get into this mess in the first place? In my view, and as I have consistently argued over the past two years, the economy would have been in much better shape today had the Bank of England's Monetary Policy Committee (MPC)--on which I sat as an external member for three years until 31 May--not kept interest rates so high, especially from the beginning of 2008. House prices had peaked by the end of 2007 and business and consumer confidence surveys had collapsed. By the second quarter of 2008, based on both output and employment, the UK economy had moved into recession. But my colleagues on the MPC did not join me in voting for rate cuts until October 2008.
So why did the committee get it so wrong? From my perspective, it was hobbled by "group think"--or the "tyranny of the consensus". Governor Mervyn King, the old iron fist of the Bank of England, with his hawkish views on rates, dominated the MPC. Short shrift was given to alternative, dovish views such as mine. I focused on the empirical data suggesting Britain was heading for recession; Mervyn and the rest of the committee focused on their theoretical models and the (invisible) threat of inflation. In fact, the Bank of England may more suitably be called "the Bank of Economic Theory". Unfortunately, the economic theories failed just when we needed them most.
Throughout this crisis the MPC needed the advice of experienced bankers, lawyers, businessmen and market-watchers. Unfortunately, practical folk who knew how to spot and cope with banking crises were in short supply at the Bank of England. There were too few regulators on the staff. Instead, the Bank was stocked full of mathematical modellers who had never seen the inside of a commercial bank or a hedge fund--and the models they used failed to pick up on the greatest financial crisis in a century. Yet, in my view, it was clear from roughly six months before the Lehman's crash in September 2008 that a financial tsunami was heading our way from the United States.
Clever as Mervyn King may be, he missed the crash and the subsequent recession, and hence, so did the consensual MPC on which I sat. In August 2008, the MPC's quarterly Inflation Report did not even contain the word "recession"; it saw the economy standing still over the next year. I very nearly quit the committee at that point. In an interview that month with Reuters, I called the forecast "wishful thinking". Mervyn called me into his office to admonish me for that one.
My former colleagues on the MPC have clung to the narrative that it was the collapse of Lehman Brothers which changed everything and that, once the financial crisis had begun, the MPC responded rapidly to events. This argument ignores certain facts: that the UK had been in recession since April 2008, that unemployment had risen by 164,000 in the three months to August, and that house prices had been falling since the end of 2007. In addition, the United States had been in recession for nine months.
Next the claim was made that if we had cut interest rates earlier, it would not have made any difference. The implied logic of this strange argument is that there is no point in having an independent central bank--or that nobody could have seen the recession coming. …