ANALYSIS: Andrew Bailey will need creativity to overcome the challenges ahead for the Bank of England
The new Governor of the Bank of England is regarded as a safe pair of hands – but the challenges he faces as we leave the EU will require a creative flair writes Maria Busca
The Chancellor of the Exchequer’s decision to appoint Andrew Bailey to Governor of the Bank of England got somewhat drowned out amidst the chaos of the snap general election. The current head of the Financial Conduct Authority, who has spent 30 years of his career in the Bank, will become the 121st governor of the Bank on 16 March, serving a full 8-year term.
The outgoing Governor Mark Carney obtained a level of notoriety during his term in office, overseeing a number of high profile and political events: during his time, the UK has experienced austerity, interest rates close to 0%, the Scottish independence and EU referendums, a sharp decline and the volatility of the pound and much Brexit uncertainty.
Bailey’s term is set to be no less difficult. One of the biggest challenges for the new Governor will be managing the financial stability as the UK negotiates its new relationship with the EU, while simultaneously remaining above the politics of it. Bailey has been vocal about his preference for a principles-based regulatory framework and has spoken against the EU rules-based approach, going as far as arguing the latter was partly to blame for the Woodford Equity Income fund scandal. His preference could hinder the UK’s prospect of gaining equivalence if the EU sees this approach as deviating from achieving the same outcomes.
“One of the biggest challenges for the new Governor will be managing the financial stability as the UK negotiates its new relationship with the EU”
Another challenge for the Governor may be to prepare for the next economic slowdown. The Bank’s toolkit to fight a potential downturn is significantly reduced, with the bank rate set at only 0.75 (and soon likely to be cut again), and an expanded balance sheet following three rounds of quantitative easing (QE). These circumstances call for extensive preparation and creativity in order to mitigate against the impact of a slowdown. This could potentially mean more central bank experimentation, including introducing dual interest rates and ‘QE for the people’ – an idea which would see newly created money directly transferred into people’s accounts.
Monetary policy normalisation and arguable breakdown of the Phillips curve – the inverse relationship between unemployment and inflation – took the backstage in the UK following the Brexit referendum, as inflation rose shortly after due to pound devaluation. However, with the Brexit debate moving to a more technical stage, these topics are likely to receive more scrutiny. Doubts over this central model of monetary policy could damage the credibility of the Bank in the public’s eyes, especially against the backdrop of the UK’s continuing “had enough of experts” narrative.
An overdue Treasury review of the monetary policy initially due in 2019 could focus minds on a new framework caught up with the new realities, boosting the credibility of the Bank. Moreover, undertaking a review at the same time the ECB and the Federal Reserve are conducting reviews of their monetary strategy could be a fresh start for central banking. Some ideas put forward are accepting low interest rates for the long term – dispelling the view that price decline necessarily leads to weaker outputs – or focusing on the financial cycle as opposed to inflation targeting when setting the rates.
On his way out, Carney warned about the most topical challenge for the financial system: climate change, noting that £100bn of British savers were invested in oil industry which could be rendered worthless. Although Carney was vocal on the imperative of transitioning to a net zero economy, calling for better climate disclosures and announcing climate stress tests, he has not gone very far in exploring the use of the central bank’s instruments to make the economy greener – possibly out of the belief that this would interfere with market neutrality. Under new leadership, the Bank could take Carney’s work further.
Andrew Bailey is seen as a steady hand on the tiller by many – his is by no means a ‘radical’ appointment. However, dealing with the challenges the Bank will face during his term will likely require him to go further than playing it safe.
Maria Busca is a Dods Political Consultant specialising in finance