John McDonnell is proposing some brave new ideas for reforming our central bank. But there's more a Labour government could do to revamp monetary policy.
A major new report – commissioned by shadow chancellor John McDonnell – proposes bold measures to reconfigure the financial sector towards productive lending and investment.
The one that’s drawn most attention is its recommendation that the Bank of England’s remit be extended to include a productivity growth target of 3% per annum. It’s not yet official Labour policy, but John McDonnell has said that he’ll be recommending it to the party.
This is a welcome contribution to the debate over the Bank’s role. The UK faces a productivity crisis, with the last decade its worst performance since the industrial revolution. This has contributed to a similar period of historically-low wage growth, while years of poor GDP growth and a diminished tax intake have been used by successive Chancellors to justify austerity.
At the root of the problem is a chronic lack of investment, and an economy that’s over reliant on rising property prices, consumer spending and financial services.
The UK needs to marshall its full range of policy measures to meet the productivity challenge, and to divert funds away from speculation and towards business investment. It makes sense for the Bank of England to play a leading role in this effort. But would this new target have the desired effect?
It all depends on whether the Bank has the necessary tools to influence productivity growth. The report argues that the Bank could analyse government policy decisions, and assess whether further policy measures are needed to meet the 3% target.
These could include credit guidance: using the Bank’s macroprudential regime to direct lending towards certain sectors, for example by establishing higher capital weights (the ‘cost of capital’) for lending towards mortgages, and lower requirements for SME lending in certain parts of the economy.
There is considerable scope to expand the role of regulatory policy beyond a narrow view of financial risk, as Positive Money argued in our recent paper ‘A Green Bank of England’.
The report made the case for higher capital requirements for carbon-intensive lending. But these tools won’t be sufficient for the Bank to boost productivity growth to the target level. This can only be achieved via coordination with fiscal policy.
The paper recognises this, arguing that the Bank should be permitted to publicly criticise tax and spending decisions, as a deterrent to the government introducing measures that damage the productive potential of the economy.
We’d like to see the next Labour government go further, allowing the Bank to create money to finance a fiscal stimulus, when it judges it necessary to meet its target. This proposal, known as Overt Monetary Financing, would enable the Bank to inject demand directly into the real economy.
New money could be spent via the government on productive investment in public goods such as infrastructure, house building, or social care.
As one of our most powerful economic institutions, the Bank of England can play a much greater role in building a more productive, high wage, balanced economy.
Reforming the Bank’s mandate is an important first step. We must also ensure that it has the necessary tools to meet its new objective.
David Clarke is Head of Policy and Advocacy for Positive Money.