Charles Goodhart - Central Banking Lifetime Achievement Award and Interview
Commentary by Kathleen Tyson - August 6, 2021
Photo: Lasse Skog/Global Utmaning/Flickr
Professor Charles Goodhart has been an advisor to Pacemaker since the first inspiration for a Financial Stability FinTech. I have known Charles more than 30 years, and we co-authored A Brief Affectionate History of the Financial Markets Group together at the London School of Economics.
I'm delighted to see Charles has been awarded a Central Banking Lifetime Achievement Award in the 2021 Central Banking Awards. Congratulations, Charles!
When Charles started his career in central banking it was a criminal offence to take more than £50 out of the country in cash and illegal to sell monetary gold. The world was far from the cooperation and stability that followed, but his perspective on the decades since provide important insights into future challenges.
The interview that followed the award ranges across Charles' six decades of perspective on central banks, financial stability, and monetary policies: Charles Goodhart on inflation targets, financial stability and the role of money. If you subscribe, read the whole thing at Central Banking.
Charles has the great merit as an economist of being an empiricist, a pragmatist, rather than a theoretical purist who defends a theory no matter how divergent from observable reality. Charles is ever-curious, genuinely interested in how things work in practice, and how things change over time. And he is generous, wanting every student and every collaborator to succeed to their full potential.
Central Banking's terms bar reproducing Charles' interview here, so I'll quote just a bit, complying with 'fair use', (Charles' quotes in blue), or paraphrase and comment.
When Charles started at the Bank of England in 1968 he was the only member of staff who knew about monetary aggregates and why they might be important to policy makers, having learned about Monetarism and Milton Friedman's inflation theories at Harvard in the US. It's a reminder that central banks don't always have equal access to current thinking about monetary policy and events, and that remains true today. Aggregates have been increasingly disregarded and downgraded in the past 20 years. The Federal Reserve abandoned reporting broad money aggregates as the shadow banking and mortgage-back securities bubbles grew prior to 2008. This year saw the Fed move from weekly to monthly reporting of M3. This may be the fashion of today, but I am with Charles in wondering if monetary aggregates will come back into style.
I like to find valuable insights in virtually all the major doctrines, as it is unlikely that a theoretical regime will come into practice unless it has a degree of truth and validity in it.
Charles is critical of economists who all agree one thing at one time and then all agree something completely different a few years later. Groupthink is a danger for any group that does not seek wider perspectives or chooses data selectively to fit a pre-determined narrative.
Whereas in my view, the demand for money function is relatively stable. And you ignore the increases in the quantity of the wider monetary aggregates very much at your peril. Historically, the argument that inflation is a function of too much money chasing too few goods has been shown to be reasonably accurate time and time again. And indeed, the present mainstream, in my view, has no real, coherent, firmly based theory of inflation at all.
Charles and Manoj Pradhan were ahead of the curve in predicting resurgent inflation due to demographics in Charles' most recent book, The Great Demographic Reversal: Aging Societies, Waning Inequality, and an Inflation Revival (2020). It would not surprise me at all if inflation is a much bigger risk than is currently appreciated by the mainstream. It should be remembered that inflation is a way of masking reallocation of wealth, returns to labour and investment, and other matters that are becoming systemically critical.
Goodhart's Law was a jest made in 1975, observing that whatever monetary indicator a central bank chose as the basis for policy would cease to have predictive value. As expressed in an article, Charles wrote it as: "Any observed statistical regularity will tend to collapse once pressure is placed upon it for control purposes." Problems of Monetary Management: The UK Experience, Papers in Monetary Economics 1 (1975).
I’m actually much prouder of having done 'the corset' [a complicated 1970s bank lending constraint] within a day than the stuff that I did subsequently with econometrics, looking at intraday, very high-frequency movements of exchange rates and how they reacted to news and all that sort of thing.
Central Bank independence
[In 1980s New Zealand] it became clear that what a central bank should be doing is to control the inflation rate. And you do this by setting an inflation target, which you choose. . . And it was a success, in the sense that everybody, once it had been introduced, said: “Ah, yes, that’s the way we ought to go, too.” And inflation targeting and independent central banks became the norm throughout the world.
Resurgent inflation for 30 years
Well, the message of the book that I and my co-author Manoj Pradhan produced, The great demographic reversal: ageing societies, waning inequality, and an inflation revival, is that the disinflationary forces that were fully in effect from about 1990, maybe even a bit earlier, to about 2010, are now reversing. The disinflationary trends of the last three decades are going to be followed by more inflationary trends over the next three decades.
Ignoring Monetary Aggregates in monetary transmission models
And while I understand that simplification works under certain circumstances, I think that, in other conditions – particularly when you get close to the zero-lower bound – I think it is really rather dangerous.
On Artificial Intelligence - AI
[I]f you use AI, I think it will be a great deal easier to see and track down, for example, things like insider trading, money laundering and all of that. AI is a support and technical advance that supervisors need to introduce for their own benefit.
On servicing sovereign debt that was growing steeply before Covid-19
But with a smaller proportion of workers to an increase proportion of aged, it means that if we’re going to pay the same benefits to the old like me, the workers like you are going to have to be taxed more. The thing is, people don’t like being taxed, and it’s politically unpopular. Well, then, if we are going to have continuing primary deficits as far as the eye can see, inflation starts rising. You can then have much tougher monetary restrictions through interest rates. But that’s not popular, either. It’s not popular to people with mortgages: it will cause financial markets to swoon. You might even get a financial collapse, and could even have a recession, which doesn’t do anyone any good. And that’s the sort of reason why, under these kinds of pressures, the independence of central banks may come under threat. So, in many ways, it is actually harder to restrain inflation now – the debt ratios are two or three times what they were when Paul Volcker was doing it. This means the complications of raising interest rates are now that much greater. This is one of the reasons why we think that the political outcome is going to be more inflation, which is a way of reducing debt levels in a somewhat underhand manner.
Charles concludes by saying that the challenges of controlling inflation are probably best met by the Peoples Bank of China, so long as the government supports controls in the interests of stability, and otherwise the Bank of England might do a good job.
The whole interview is worth a read: Charles Goodhart on inflation targets, financial stability and the role of money.