The Bank of England’s reliance on “inadequate” forecasting models and a lack of intellectual diversity within its most senior ranks contributed to inflation sticking at among the highest levels in decades, a Lords report has found.
In a report critical of Threadneedle Street, the powerful Lords economic affairs committee said the central bank had made “errors” in its handling of the inflation shock triggered after the Covid pandemic and Russia’s invasion of Ukraine.
While saying that all major central banks had incorrectly expected the toughest inflationary period in four decades to be “transitory”, it warned that mistakes at the Bank had fuelled a “dramatic” fall in public confidence.
Highlighting incorrect forecasts made in 2021 for inflation to cool, it said possible reasons included a “perceived lack of intellectual diversity” at the central bank.
It also said a steady expansion in the Bank’s remit to include a wider range of priorities – including economic growth and responding to the climate crisis – had risked jeopardising its ability to meet its primary objectives of managing inflation and financial stability.
“Looking at the most recent period it’s important to stress in our mind that all central banks have made errors in the handling of inflation and seeing it as transitory; the Bank of England was not alone,” said George Bridges, the chair of the committee. “While it is true that the Bank wasn’t alone, that doesn’t mean to say there aren’t lessons to learn.”
The Bank started increasing interest rates in December 2021 as the UK’s annual inflation rate surged to more than 5% after the easing of pandemic restrictions. At the time, it expected inflation to fall back as global supply bottlenecks eased, while the end of the government’s furlough scheme complicated its decision.
The central bank has argued it was difficult to forecast Russia’s war with Ukraine. Energy prices were rising before the war, but then surged to among the highest levels on record after the February 2022 invasion, driving UK inflation to peak at a 41-year high of 11.1% by October 2022.
The Bank has since raised interest rates 14 times in succession, with inflation falling back to 4.6%.
The central bank has appointed Ben Bernanke, the former chair of the US Federal Reserve, to review its forecasting, after facing heavy criticism from MPs over its forecasting record.
Calling for reforms to help manage future inflation shocks, the Lords report said the government should “prune” the Bank’s remit to reduce the number of issues it is focused on, while introducing a review of its responsibilities every five years.
A spokesperson for the Bank of England said: “We’d like to thank the Lords [economic affairs committee] for this report and will be giving the recommendations careful consideration. We’ll respond formally in due course.”
