Markets need to form a view on the probabilities of different paths of future interest rates in order to price a wide range of financial instruments. So they are interested in what central banks say. In recent months both the Federal Reserve and the European Central Bank have found it far from straightforward to convey the likely trajectory of future interest rates. And the Fed announced three weeks ago that Chairman Bernanke had established a subcommittee of the FOMC to examine a number of “communication issues”. There is now a lively debate about how, and to what extent, central banks should try to communicate their intentions with respect to future official interest rates to financial markets and the wider public. At the Bank of England, our approach is to keep it as simple as possible. We don’t say where interest rates will go next for the simple reason that we don’t know. And it would be quite misleading to pretend otherwise. The MPC reaches a new judgment each month, made afresh in the light of all the new information about the prospects for inflation. We don’t decide in advance. So trying to give direct hints on the path of interest rates over the next few months risks deceiving financial markets into believing there are definite plans for the next few months when no such plans exist. But in order to form judgements about the likely path of interest rates over somewhat longer time horizons, markets do require some information from the central bank.
For many years, the Bank operated several times a day in  BIS Review 61/2006  1  the money markets, but that hyperactive approach did not succeed in stabilising the overnight interest rate which remained more volatile than in most other advanced countries. It was important to move to a simpler system in order to reduce that volatility, and the new system of money market operations, which was introduced last month, has done precisely that. The Bank now deals in the markets only once a week. Almost all banks and building societies now have access to the Bank. And they no longer have to balance their books with us at the close of business every day, but instead must achieve a target balance with us on average over the month running between MPC meetings. For the first time in its history, the Bank pays interest on reserve balances held by the commercial banks with us. The rate paid by the Bank on those reserve balances is the rate set by the MPC - Bank Rate is back. Great credit is due to the teams led by Andrew Bailey and Paul Tucker who together managed the introduction of the new system, proving that, as Cameron Cobbold remarked in 1958, “the Bank is a bank, not a study group”. The 1997 reforms also changed the rules of the game for communication between the Bank and financial markets, and I would like to say a word about what they are.