Central banks’ maxim: “never explain, never excuse” now laid bare

Former governor of the Bank of England, Montagu Collet Norman was especially notorious on this behaviour

 

 

By Colls Ndlovu

 

 

As has become a ritualistic routine now, the bulk of the arguments in this article are to be found in one of my favourite books that I wrote a few years ago entitled “Zeitgeist Economics” which contains a compendium of excellent economics and financial articles and theoretical models.

A few days ago, in the run up towards the still pending delivery of Covid-19 vaccines, Zimbabwe’s Finance Minister, Prof Mthuli Ncube found himself bogged down on embarrassing communication knots.

Initially he issued a statement through the state media alleging that private citizens of Zimbabwe will be required to pay for Covid-19 vaccines.

Later on within a few days he was forced to contradict his earlier statement by asserting through yet another formal statement that the said Covid-19 vaccines would be availed for free to all the citizens of Zimbabwe.

These strange twists and turns on the part of the highly erudite Prof Ncube served to underscore the importance of the art of communication especially when dealing with a life and death tragedy like the Covid-19 pandemic which has already decimated the Zim cabinet and the judiciary, inter-alia.

Communication is an art. And on this issue, central bankers are very well placed to assist other government agencies in this respect.

Central banks are generally perceived to be reclusive and somewhat secretive about their operations.

Opinion on central bankers

This misperception is fuelled by some central banks’ maxim, “never explain, never excuse”. Former governor of the Bank of England, Montagu Collet Norman was especially notorious on this behaviour.

He thus created a perception that central bankers are generally reclusive and secretive to the extent of creating some mysticism around the functions of a central bank.

Former US Federal Reserve chairman, Ben Bernanke asserted that there was a time when central bankers did not talk to the public citing Montagu Norman as a classic example of the 1930s generation, which perfected this practice.

To add to this view was the opinion of central bankers themselves who believed that a certain “mystique” attached to their activities.

To the central bankers, “making monetary policy was an arcane and esoteric art that should be left solely to the initiates, and that letting the public into the discussion would only usurp the prerogatives of insiders and degrade the effectiveness of policy.”

Democratic posture

In contradiction to the foregoing, modern central banks have become somewhat transparent and open.

Monetary policy committees around the world are now adopting transparency and open communication without the shackles of the past.

Press conferences are now called to announce monetary policies and testimonies before parliamentary committees have become standard procedures in central banking.

Regular publication of reports on monetary policies, minutes of meetings and community engagements are all accepted boiler plates nowadays.

Given that central bankers are public servants, it is incumbent upon them to give the public relevant and timely information with explanations for any actions taken thereof because such actions invariably affect the livelihoods of ordinary people and their business.

Calls for accountability are, therefore, not misguided or mischievous.

Openness assists central bankers to educate the public and they in turn get useful feedback from an informed public.

This fosters simultaneous and timeous release of information to the public on a real time basis.

Moreover, this kind of democratic posture reduces the risk that market-sensitive information could leak through inappropriate channels, thus, giving rise to insider trading to some market players.

The extent to which central banks must release information to the public remains an open ended question.

The point is that communication should assist central banks to make monetary policy more effective.

Monetary policy deals mainly with the use of interest rates as a tool to control the money supply in an economy.

Control of interest rates, therefore, is used as a lever to influence asset prices, yields, stock prices, government and corporate bond bonds yields and mortgage rates.

Multi-cononlinearity

These variables, whether they act in multi-colinearity or multi-cononlinearity, allow central banks to affect the overall course of their respective economies.

Much as central banks are always pre-occupied with short-term interest rates, these rates have an influence on longer term interest rates.

In fact, long term interest rates are a function of short term interest rates.

Bernanke has asserted that longer-term yields should depend on market expectations about the future course of short-term rates.

Any negative news that adversely affects short-term interest rates tends to cause the market to expect future interest rates to rise.

Rising future bond yields (in correlation with rising interest rates) causes bond prices to decrease.

The term structure of interest rates, that is to say, the yield curve, demonstrates this inverse relationship between bond prices and interest rates.

The unpredictability of monetary policy, gives rise to the need by central bankers to communicate even more transparently to help market participants to plan for the future from an investment perspective.

A central bank’s provisioning of information relating to its objectives, assessment of the economy, and policy strategy is critically important.

Information is asymmetrical and sometimes conjectural

Central banks generally do not enjoy an unfair advantage on information relative to the markets they service simply because they use similar information as used by the markets. The provision of information is, therefore, symmetrical.

However, in practice, it turns out that the markets do not have access to information to the extent assumed by theory.

As highlighted, information is asymmetrical and sometimes conjectural.

In practice, financial-market participants generally do not have access to the same information as central banks, which have elaborate research departments.

The availability of information is therefore asymmetrical, and incomplete. The extent of asymmetry, therefore, calls for the central bank to improve its communication drive.

Whether all the information provided by central banks improves the fore-castability of policy can only be determined on the basis of whether the public can accurately predict inflation rate in the long run.

Uncertainty and related headwinds usually cause distortions in such scenarios thus causing further distortions for wage negotiators.

Theoretically, central banks can release all the relevant information and the public can be expected to accurately measure and predict or forecast future events.

But in reality, “specifying a complete and explicit policy rule, from which the central bank would never deviate under any circumstances, is impractical.”

The risk, of course, arises from the unlimited number of contingencies that can derail any such policy rule.

Notwithstanding all the hindrances pointed above, there are many other things that a central bank can do to improve its communication processes.

The central bank should behave in an orderly and systematic fashion. Monetary policy should have certain standard features that assist market participants to model their positions.

Ever-changing environment

Central banks like the markets they serve, operate in a dynamic and ever-changing environment.

Consequently, explanations by way of words are also a necessary part of communication nowadays beyond the mechanical rules and policies.

Central banks should make their information symmetrical as a general rule, that is to say, provide the public with the same information that they used to reach certain decisions.

In other words central banks should be as explicit as possible in their communication, i.e. economic forecasts, its assessment of the economic risks, and the models or analytical frameworks that underlie its diagnosis of the economy.

More frequent release of economic statistics could also help to better inform the public and hence assist them in the forecasting of inflation and interest rates, among other forecastable economic variables.

In the pursuit of improved and transparent communication of information, one has to understand that more information is not always better.

In these days of fake news and the emergence of so-called alternative facts, information has to be managed carefully as distorted information can harm the business environment.

For example televising monetary policy making debates can injure and discredit the integrity of policy makers and the policy making process.

Whether the additional or new information will improve or harm the public’s comprehension of the policy making process and thus assist it is what matters.

 

Colls Ndlovu, a currency expert, is an award-winning economist and central banker, and is the originator and developer of the NCX Index.

 

 

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