Central banks running low on ammunition, warns Mark Carney
The global economy is heading towards a “liquidity trap” that would undermine central banks’ efforts to avoid a future recession, according to Mark Carney, governor of the Bank of England.
In a wide-ranging interview with the Financial Times, the outgoing governor warned that central banks were running out of the ammunition needed to combat a downturn.
A liquidity trap occurs on the rare occasions when monetary policy loses all effectiveness to manage economic swings and looser policy does not encourage any additional spending.
“It’s generally true that there’s much less ammunition for all the major central banks than they previously had and I’m of the opinion that this situation will persist for some time,” he said.
That meant there was a need to look for supplements to monetary tools, including interest rate cuts, quantitative easing and guidance on future interest rates, he said. “If there were to be a deeper downturn, [that requires] more stimulus than a conventional recession, then it’s not clear that monetary policy would have sufficient space.”
Despite concerns about a potential downturn, Mr Carney was optimistic about the City’s prospects after Brexit. He made clear there was no point in London, as a world financial centre, being a rule taker from Brussels.
He urged the UK government to avoid aligning its financial regulations with those in the EU in the hope of better trade terms after Brexit.
“It is not desirable at all to align our approaches, to tie our hands and to outsource regulation and effectively supervision of the world’s leading complex financial system to another jurisdiction,” he said.
Mr Carney echoed other central bankers, such as the European Central Bank’s Mario Draghi and his successor, Christine Lagarde, in recommending that governments consider fiscal policy tools, such as tax cuts or public spending increases when tackling a downturn. However, he accepted “it’s not [central bankers’] job to do fiscal policy”.
The governor said monetary policy was not yet a spent force internationally, with US and eurozone interest rate cuts last year encouraging borrowing and spending. “We’re starting to see that stimulus flow to the global economy.”
He insisted that he was not leaving his successor, Andrew Bailey, without any tools in the armoury. The BoE could still cut interest rates from 0.75 per cent to close to zero and “supplement monetary policy with macroprudential tools” by relaxing banks’ capital requirements to enable them to lend more.
Mr Carney predicted that the City of London could profit from the “huge commercial opportunity” of helping to finance and accelerate action to mitigate global warming — although he recognised that the financial sector was not a substitute for effective policies at the national and international level.
He predicted that the City could benefit from financing the transition to a low-carbon economy in place of some EU activity. “This happens to be a huge commercial opportunity for the City of London and the UK financial sector writ large.”
The Bank of England has led other central banks on taking a firmer stance on combating the financial risks to banks and insurance companies that stem from global warming.
Mr Carney has been criticised for straying beyond his mandate with this position, but he dismissed those concerns. “Anybody who says that doesn’t know the breadth of the powers of the Bank of England,” the governor said.
With little more than two months left in office, Mr Carney accepted that his tenure had turned out differently than expected when he was hired as the central bank governor in late 2012, and had been shaped more by Brexit, the issue of Scottish independence and climate change than by economic recovery.
He had no regrets, however. “We . . . have a statutory responsibility to identify the major risks to financial stability,” he said. “We can’t dodge that.”
The greatest concern in managing the British economy and those of other advanced countries, he added, was how central banks might respond in future to a sharp downturn.
If Britain were to fall into a recession, he accepted that the BoE could run out of monetary policy space and revealed that the central bank was looking into the issue. “Hopefully [a recession] doesn’t arrive in the next 69 days,” he quipped, noting the short period left before his 16 March departure.
Sitting behind an 18th-century table, Mr Carney’s office demonstrates what he called the management challenge of coming into the BoE from Canada to bring the bank into the 21st century and “fix the [central] bank, fix the financial system and secure the recovery”.
It cannot be missed how history and modernity live cheek by jowl inside this part of the bank. The table contrasts with the day’s financial figures on two huge screens on his work desk; an aged imitation Canaletto painting of London hangs awkwardly on the wall next to a digital image of Venice, enclosed in an antique gold frame. The serenity of the BoE courtyard outside his rooms is remote from the bustle of London’s financial district beyond the main walls.
When Mr Carney was appointed, Britain was convulsed in arguments over whether it was heading for a triple-dip recession, but soon these questions of whether demand and spending were adequate no longer dominated monetary policy as expected.
Demand returned in 2013, just as he took up his position. After that, the main concerns became unexpected movements in supply: how many people could be employed without inflation and how much they would produce every hour of work.
“There was this big supply uncertainty — historically supply had been relatively predictable,” he said, leading to “a different recovery in many respects” than he and others had expected. “The strength of the labour market stands out,” he said with record employment and “wage growth returning to historic averages”.
The monetary policy committee also had to grapple with structural difficulties such as the near stagnation in productivity measured by output per hour worked compared with pre-crisis average annual growth rates around 2 per cent. “It’s safe to say [productivity] has been weak for a long time and a continual disappointment,” he said.
Amid these economic uncertainties, the main task of the BoE, according to the governor, was to finish core reforms to the global financial system and react appropriately to the political upheavals of the Scottish and Brexit referendums and the challenges of climate change. Mr Carney insists that rather than be too political, as his predecessor Mervyn King has suggested, the BoE had to get involved because it now had a duty to preserve financial stability.
“It’s a different thing when something directly affects the financial system or the monetary system, as in the currency choice in the Scottish referendum or certain forms of Brexit which would have had a material impact on the financial sector.”
Noting the preparatory work the BoE forced on the financial system, he said the bank “had to do more than pray that the issue will be addressed”. He added that part of the reason he had agreed to stay on was to face the consequences of a no-deal Brexit rather than saying: “Don’t worry, it’ll be fine, I’m going back to Canada, good luck”.
But he was clear that the financial sector could not mitigate global warming alone and without wider agreements to limit global warming and action to enforce targets.
“I don’t think the financial sector should be or will be a substitute for climate policy,” he said. Adding that it could only amplify wider environmental policy action, he said: “I don’t think that climate policy should be run by stealth though capital ratios or other use of prudential policy to shift incentives”.
The governor will return to Canada in the summer and in the meantime has taken up a UN role as special envoy for climate action and finance until the November climate summit in Glasgow.
When he returns, he said, he would go home with fond memories of an “amazing country”.
“There’s the diversity of the cultural activities here, the history and the humour. This is a fantastic place. It’s a pleasure to live in the UK in the 21st century.”
But frustrations of UK life in the crosshairs of polarised political debate will also haunt him in the search of a new job. “This role is just much more public than the same role in Canada,” said Mr Carney.
“You’re just always in public . . . you’re not always performing but you’re always in public. It’s nice to be in private.”