In a Treasury Committee meeting last month, when asked whether there was anything the Bank could have done to have shaped monetary policy differently over the last year, Bailey responded saying, ‘I don’t think we could’.
Defending Threadneedle Street before an announcement of the sharpest annual increase in interest rates for four decades, Bailey told the Committee that while he was unhappy about the level of price rises, 80% of the inflation target overshoot was caused by factors outside the Bank’s control.
The war in Ukraine, Brexit, and the Covid-19 pandemic, in particular China’s zero-Covid policy, were the three main issues highlighted by the Bank as being the cause of the spiralling rise in inflation rates with the Ukraine war being described as the ‘big one’ due to the cutting off of energy supplies from Russia.
Bailey raised his concerns about food prices stating, ‘What I’m going to sound, I guess, rather apocalyptic about is food’ adding that Ukraine’s inability to export its crops was a ‘major worry for this country’ with Ukraine being one of the biggest producers of grains including wheat, and sunflower oil.
Bailey said: ‘A sequence of shocks like this, which have come really one after another with no gaps between them, is almost unprecedented. I do see comments based on hindsight, but we have to take [monetary policy] decisions based on the facts and evidence at the time.’
The panel did clarify that monetary policy ‘can have an effect’ but there is ‘nothing policy can do about external factors’, adding that ‘interest rates can help to ensure inflation does not become embedded once these initial shocks fade’.
Bailey said: ‘It is a very, very difficult place to be. To forecast 10% inflation and to say there is not a lot we can do about it is an extremely difficult place to be. This is a bad situation to be in.’
Sir Dave Ramsden, deputy governor of the Bank of England added that Brexit was not the only thing fuelling inflation as the EU, UK and the US are all experiencing similar levels, stating that ‘it was hard to disentangle the effect of global supply constraints and Brexit on inflation’.
However, Bailey added that the Bank had not changed its view that Brexit ‘would have a negative effect on trade’ and that ‘it would take a long time for the economy to adjust that, although it eventually would’.
Member of the Bank of England’s Monetary Policy Committee (MPC) Michael Saunders added that Brexit has become ‘less of a source of uncertainty’ since the Covid-19 pandemic which is why the Bank focused more on Covid-19 recently.
Bailey also acknowledged that the Monetary Policy Committee had changed its view about the UK labour market stating that it now believes it is ‘very tight’ which is something that it could not predict until after the government’s Covid-19 furlough scheme ended.
When asked whether rates should have been put up last year at times of labour shortages after the furlough scheme ended, Bailey added that it ‘had been a key question at the time’, however it was ‘unclear what the impact of the end of the furlough scheme would have been’ and ‘whether the people who used it would have been reabsorbed in the jobs market’.
Saunders then added that ‘even if the Bank had raised rates more aggressively last year, it's unlikely that would have brought inflation back down to the target of 2%’.
Bailey’s appearance at the Treasury Committee has come following the aftermath of growing criticism of the Bank’s performance.
However, Bailey stated that no government minister had approached him over monetary policy or the Bank’s independence amidst all the briefings and media coverage over recent weeks.
Bailey stated that ‘the most important thing we can do is to get inflation back to target without unnecessary disruption to the economy’ and implied that the Bank would not shy away from generating a recession to do that if it was necessary.
Bailey added: ‘This is the biggest test of the monetary policy framework in 25 years. There is no question about that, we have to get [inflation] back to target and that is clear.’