Published by EH.Net (October 2023).
Harold James. Making a Modern Central Bank: The Bank of England 1979-2003. Cambridge: Cambridge University Press (Studies in Macroeconomic History), 2020. xxiii + 543 pp. £31.99 (paperback), ISBN 978-1108799492.
Reviewed for EH.Net by John Singleton, Sheffield Hallam University.
Harold James’s Making a Modern Central Bank is the latest in a series of authoritative commissioned histories of the Bank of England (hereafter BoE). Apart from a weighty volume on 1941-1958, written by a retired BoE official, each is from the pen of a distinguished economic historian. James is a professor of history at Princeton whose previous works include histories of the IMF and of European monetary integration. Making a Modern Central Bank is a lively and relatively fast-paced account of a tumultuous period in British monetary and economic history.
Three episodes stand out in this period: the aggressive disinflation of the early 1980s, the events leading up to Black Friday in 1992 when sterling was forced out of the European Exchange Rate Mechanism (ERM), and the dash in 1997 to give the BoE operational independence in the conduct of monetary policy. The BoE’s role in supervising individual banks and the banking system also receives considerable attention, but no events or accidents in the supervisory arena matched the scale of those in the monetary arena.
James’s account of monetary policy formulation and implementation in the early 1980s creates an impression of organized chaos and almost breathless activity. In its campaign to squash inflation, the first Thatcher government differed from its predecessors in having the fortitude to press on regardless of any collateral damage. The BoE had a say in monetary policy implementation, as did Treasury officials, but macroeconomic policy was driven by Margaret Thatcher, the Prime Minister, and to a lesser extent by Geoffrey Howe, the Chancellor of the Exchequer. Although trained as a chemist and lawyer, Thatcher was an enthusiast for monetarist economics. She commissioned and attended macroeconomic policy seminars and sought congenial advisers beyond the walls of the BoE and Treasury. The politicians were hands on, and there were frequent and sometimes confusing arguments over when, and by how much, to tweak policy instruments. Monetary targets, interest rates, and fiscal targets all played parts in a regime that sat at the eclectic end of monetarism, yet it worked. The intervention of the BoE in policy debates was rarely decisive; as James demonstrates, the central bank was but one source of advice on monetary policy.
Nigel Lawson, Howe’s successor as Chancellor, was rather more independently minded, though no less overawed by Thatcher. Lawson put greater emphasis on the exchange rate as a tool for ensuring monetary discipline and presided over the UK’s accession to the ERM system of pegged exchange rates which proved short-lived. The BoE failed again to exert a powerful influence over policy. Indeed, the BoE was itself divided, with some senior staff members favouring closer alignment with the German and other European currencies and others remaining sceptical. James, correctly in my view, regards the UK’s departure from the ERM as a turning point that permanently shattered policy makers’ fascination with pegged exchange rates, paved the way for new approaches to monetary policy and central bank–government relations, and led to a fundamental divergence from the European Union (pp. 307-309).
After the ERM mishap, the government endorsed a new regime of inflation targeting, albeit one without operational independence for the BoE. James shows how political control over interest rate decisions became even more obvious to the public in the mid-1990s, courtesy of the so-called Ken and Eddie shows. Ken Clarke, the Chancellor, and Eddie George, the Governor of the Bank of England, held regular and well-publicised meetings to discuss monetary policy. It became apparent that Ken and Eddie did not always agree and that when they differed it was Ken who had the final say over the policy interest rate, possibly after some horse-trading with Eddie. This embarrassing muddle ended when Labour won the election in 1997 and, in order to convince the public and the markets of its economic conservatism, passed a law to make the BoE operationally independent with respect to the implementation of monetary policy, the government retaining the power to specify the inflation target. This reform, in line with international best practice in the 1990s, was welcomed by the BoE, and not least by Mervyn King, the incoming Deputy Governor, by profession an academic economist. James concludes his discussion of monetary policy by examining the early years of the Monetary Policy Committee (MPC), the body within the BoE that was tasked with setting the policy interest rate.
A significant portion of James’s volume is devoted to crises affecting individual banks including Johnson Matthey, the Bank of Credit and Commerce International (BCCI), and Barings. A formal regime of banking supervision was not adopted by the BoE until 1979. Prior to the scandals of the mid 1970s, it was assumed that British banks were run by good chaps, and that supervision could be confined to polite chiding over tea and scones. The deregulation and internationalisation of financial markets and institutions created new and bigger risks. James demonstrates that the BoE did not keep up with the proliferation of threats after 1979. Prudential supervision had low status within the BoE, and perhaps did not attract the best staff. Moreover, warnings from junior and middle-ranking staff sometimes failed to reach senior levels within the institution. After further embarrassments, prudential supervision was snatched away from the BoE by the Labour government after 1997, somewhat marring, in the eyes of George and others, the achievement of operational independence. Responsibility for oversight of the financial system was retained by the BoE, but relatively little attention was paid to this aspect of its portfolio, and the work of the MPC was hindered by a shortage of intelligence on what we might term macroprudential conditions.
A more detailed analysis of the crisis at the Midland Bank in the early 1990s would have been worthwhile. One of the UK’s largest commercial banks, the Midland was unquestionably systemically important, and had been mismanaged for some years. James (pp. 390-395) argues that the Midland flirted with disaster in the early 1990s. In view of the collapse of several large UK banks in 2007-2009, the earlier problems at the Midland are passed over rather lightly.
The BoE as an institution evolved significantly between 1979 and 2003, and James comments perceptively on changes in personnel and attitudes and shifts in the relative importance of different departments and functions. The BoE certainly became increasingly academic in recruitment and style over the period covered in Making a Modern Central Bank. Successful careers could no longer be built on bureaucratic competence alone, or on familiarity with the peculiarities of London’s financial markets. The BoE was relieved of a weighty bureaucratic burden when exchange controls were abolished in 1979; almost twenty years later it was forced to transfer prudential supervision to the new Financial Services Authority (FSA). By stages, the BoE also retreated from its role as advocate for the City of London, a role that had involved conflicts of interest, and one that lost its purpose as the City became increasingly controlled by foreign institutions. Consequently, the BoE’s function as monetary policy authority was unrivalled by 2000. It was quite a transformation.
At the end of Making a Modern Central Bank, it is not easy to assess just how successful the BoE was between 1979 and 2003, not least because its functions and objectives were subject to alteration. Until 1997, the BoE was captive to the monetary policy preferences of elected politicians and could claim that it was only following orders. Would an ‘independent’ central bank have done things differently between 1979 and 1997, and would the results have been better or worse than control by Thatcherite politicians? We cannot be sure. The BoE certainly made errors in the prudential field, not least with respect to the criminal BCCI, and was subsequently punished by Labour politicians who transferred the supervision of banks to the FSA. James argues in the epilogue that by 2000 the Bank was ‘widely recognized as a best-practice central bank’ (p. 453) while noting that within a few years the best practice of the 1990s would come under a cloud.
Making a Modern Central Bank maintains the high standard set by Sir John Clapham, R.S. Sayers, and Forrest Capie in previous official histories of the Bank of England. Scholars of economic policy in late-twentieth century Britain, and of the comparative history of central banks, must engage with this book.
John Singleton is Emeritus Professor of Economic and Business History at Sheffield Hallam University. His publications include Central Banking in the Twentieth Century (Cambridge University Press, 2011) and, as co-editor with Nicole Robertson and Avram Taylor, 20th Century Britain: Economic, Cultural and Social Change, 3rd edition (Routledge, 2023).
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