An interview with Danny Blanchflower of the Bank of England's monetary policy committee.
When David “Danny ” Blanchflower was appointed to the Bank of England’s monetary policy committee (MPC) nearly three years ago, there was surprise.
Though renowned as a labour market economist, like Steve Nickell, the man he replaced, he had left Britain for America in the late 1980s.
A professor of economics at the Ivy League Dartmouth College in New Hampshire, he emerged during the debate over UK university funding and the row over Laura Spence, the state school pupil who was refused a place at Oxford.
But newspaper speculation about who might replace Nickell did not feature Blanchflower, and younger Bank staff had to be told why the 56-year-old was universally known as “Danny” - after the Spurs footballer of the 1950s and 1960s.
But Blanchflower has made his reputation on the MPC by being consistently more worried than his colleagues about the downside risks facing the economy.
While they were fretting about inflation, and the embarrassment of the governor, Mervyn King, having to write public letters to explain why it was overshooting the target, he was concerned about the recession danger. In the 31 MPC meetings he has attended, he has voted 16 times to cut Bank rate and only once to raise it. It was a lonely furrow to plough.
Speaking by videolink from snowbound New Hampshire, where he spends half of each month, he recalled that his consistent view was that where America led, Britain would follow, with housing market woes followed by recession.
“To use a baseball analogy, you have to call balls and strikes as you see them,” he said. “It is very important to be your own person. The strength of the committee is its diversity, not its narrowness. It was very hard being in a minority for such a long time.”
He regrets the fact he could not persuade the rest of the MPC to cut rates more aggressively earlier and that the Bank got “behind the curve”. Had interest rates come down sooner, Britain, he says, would be in a better position now. “If you look back to what I was saying in January 2008, a year ago, it was that we needed to cut interest rates to avoid a recession.”
That does not mean he is an unthinking “dove”. The Bank should have acted earlier to head off the housing boom, he said. “It certainly appears that the housing market was a bubble and that rates should have been raised earlier than we did, and cut much sooner when the housing market turned.
“But let’s put those differences aside. We have to get rates down, do what we have to do. Doing too much too early is better than doing too little too late. But obviously when you get rates down to zero you have to be prepared, once the economy recovers, to raise them again.”
Blanchflower repeats that there is further to go on interest rates, taking them down to American levels. “Obviously we have cut a lot but we are still a long way from 25 basis points [0.25%] as in the US,” he said. “I don’t think the interest-rate weapon is defunct; we still have an inflation target; we are obviously approaching zero rates. Would you prefer to have 5% interest rates now, or where they are? But we’ve had to play catchup and that’s not what I would have liked.”
Even zero rates are unlikely to be enough, however. He welcomes signs that “quantitative easing” - artificially boosting the money supply - will soon be part of the Bank’s armoury.
“This is new territory,” said Blanchflower. “There’s obviously literature on it . . . but many of the models we looked at didn’t allow for the possibility of financial meltdowns. And there’s no room in the models for quantitative easing. So this is a very tough time. The devil will be in the detail but, as I understand it, the MPC will make the decisions on quantitative easing.”
In the job market, Blanchflower worries about the rise in unemployment, particularly among the young. He dates the recession's start to April last year when the labour market turned decisively downwards, and warns that even normal recessions have resulted in unemployment rising for three to four years.
“We’re at 1.92m now. It would be hard to think we would not get to 3m, perhaps in a year’s time. If you take the experience of previous recessions, 3m might be optimistic.
“When unemployment rises, it rises more among the young. The most worrying number in the latest statistics was that of the 131,000 rise in unemployment, 55,000 was among 18-24-year-olds.
“Then there’s the worry about the Class of 2009 and the people who will be entering the labour market in June. This is a big problem. Unemployment when people are young really matters. There are 600,000 18-24s unemployed now, 14.5% already. That’s my concern.”
The recession’s roots in the financial crisis make its path difficult to predict. The Bank will publish a new forecast next month but Blanchflower says the uncertainties are huge.
“Economics missed this. One of the things I’m struck by is how silent economics has been through this because it does not fit well with the models.
“This is the biggest financial crisis, accompanied by an oil shock, we’ve seen in our lifetime. This doesn’t mean we’ll have a Great Depression - we’ve thrown, or are throwing, everything at it.
“It is very hard to forecast with traditional means. Surveys, including our agents’ reports, appear to forecast pretty well for about three quarters ahead. I don’t know where we are going to be after Q3 2009, but I don’t see any recovery before then. Q1, Q2 and Q3 will certainly be negative.”
Despite this, and despite a reputation for being the gloomiest member of the MPC, he insists he is optimistic about the medium term. He also dismisses suggestions that Britain is faring worse than the euro-zone, fears that have helped drive down sterling recently.
“I don’t think people quite realise that what has been going on in the UK exactly maps what has been happening in the euro area,” he said. “People have been more down-beat on the UK relative to the euro area than they should be. We’re on the case now. My view is that people have been too bearish, too pessimistic.”
Though concerned that inflation will fall too far, pushing the country into deflation, he also thinks the drop will be a mechanism of recovery, even alongside slower pay growth.
“As inflation falls that means real wages improve. Economies do recover when positive real wage growth starts to kick in.” We saw that at Christmas to an extent - people started to respond to lower prices.”
Despite his worries about unemployment in the coming months, Blanchflower argues that Britain’s flexible labour market will be a big advantage. “Migration has made the labour market more flexible, so the effects of that should be that the shake-out of the labour market should be earlier . . . it’ll be a big shock in the next few months - but perhaps unemployment won’t go as high as in the past because wages will take some of the strain.
“I’m not all doom and gloom. We are throwing everything we can at this - that’s what we learnt from the Great Depression. Economies will bounce back . . . We want to see the housing market stabilising, consumer confidence returning and firms more optimistic about their ability to invest.” The Bank has its role in this. “If people are fearful about what’s coming, they are going to hunker down, so it is part of our job to restore confidence, to return things to normal,” he said. “Economies turn around, economies recover, and this economy will. The priority right now is to get us out of a difficult situation.”
There are good things about recessions, however, he says, even despite the gloom. “It is what I call the purging effect of recession. These are difficult times but there are huge opportunities for some - huge business opportunities.”
Perhaps most encouragingly, for one who believes Britain takes its lead from America, he detects signs of hope there.
“The sense I have is of renewed optimism. Part of it is that oil and gas prices have come down but there is also a feeling that the turn has come. I know there are difficulties in the banking sector and in the markets but people feel . . . there will be an Obama effect. And if we have a turnround in America, that will feed over to Britain.”
If Blanchflower is right, Britain will still be in recession when his three-year MPC tenure ends on May 31. But, with luck, there might be a few green shoots on show.
From The Sunday Times, January 25 2009.