Skip to main content

A bus passes the Bank of England in the city of London on Nov. 26, 2012. Britain named Canadian central bank chief Mark Carney as the next governor of the Bank of England.Olivia Harris/Reuters

When George Osborne, Britain's Chancellor of the Exchequer, unveils his budget on Wednesday, much of the attention won't be on the government's spending or taxation initiatives but on what it plans to do with the Bank of England and how that will affect incoming governor Mark Carney.

Mr. Osborne is widely expected to change the central bank's annual mandate to give it more flexibility in how it tackles monetary policy. The change is coming mainly because the government has run out of options to stimulate the economy and has been relying more on the bank.

The mandate hasn't changed much in more than a decade. Under the current remit, the bank is supposed to maintain price stability, defined as keeping annual inflation at 2 per cent, and support the government's economic policy.

With inflation staying well above the 2-per-cent target and Britain's economy on the verge of a triple-dip recession, many economists, and politicians, have argued the mandate is too rigid. And most expect that, at the very least, Mr. Osborne will replace the 2-per-cent annual inflation target with a 1- to 3-per-cent range.

Mr. Carney won't take over as governor until July, but he has already been at the centre of the debate. During an appearance before a British parliamentary committee last month, Mr. Carney confirmed he had spoken with Mr. Osborne about the mandate. He told members of Parliament that he welcomes a discussion on the issue, adding that "it is important that the policy framework is reviewed periodically."

However, he shied away from advocating a target based on gross domestic product or adopting the approach of the U.S. Federal Reserve, which emphasizes inflation and unemployment. "In my view, flexible inflation targeting – as practised in both Canada and the U.K. – has proven itself to be the most effective monetary policy framework implemented thus far. As a result, the bar for alteration is very high," he told the committee.

Not everyone is convinced a move away from a rigid inflation target is a good idea. They argue the central bank has already shown remarkable flexibility, keeping the bank rate at 0.5 per cent, pushing a $500-billion asset purchase program known as quantitative easing and introducing a Funding for Lending Scheme to cut borrowing costs.

"Inflation targeting is not a sham: The discipline of the inflation target is paramount," Spencer Dale, the bank's chief economist, said in a speech Friday. There is growing talk, he added, that "inflation is somehow yesterday's war. That central banks should focus more on growth. That a period of higher inflation may even aid the recovery. This is dangerous talk."

Outgoing governor Mervyn King also said changing the target wasn't necessary. "I'm not sure that there is any call for a major change in the remit," Mr. King told ITV News Friday. "What's most important is that we commit ourselves again to a very clear target for inflation of 2 per cent."

But many observers believe at least some change to the remit is inevitable. Despite all the actions taken by the bank to help stimulate the economy "the calls for further 'monetary activism' seems only to have grown stronger," Jens Larsen, chief European economist at RBC Capital Markets in London, said in a report.