We know that linking compensation to productivity is efficient, but the devil is in the details. Second, the regulation-making process, as very well discussed in Dr. Reddy’s lecture, was also distorted by comprehensive capture by the financial industry. As he explains, this was not only capture of the regulators, but also capture of public policy relating to the financial system. With a little bit of moral hazard, which is exacerbated by regulatory and policy capture, the result was the creation of a very vulnerable financial system. Finally, there was indifference in policy circles. None of us saw it coming, at least not with the intensity with which it arrived, which still persists. Indeed, it was difficult for those of us from emerging markets to think that this could happen in the advanced world. Whenever we had raised a concern we had been told that “these are developed countries,” as an argument that “this time is different”. There were, of course, calls for prudence, in particular from this institution, but we never thought that the consequences would be so dramatic. Markets should provide enough discipline to balance risk and return, but that was not exactly the case. The market functioned poorly. In addition, we had a sense of security given the “decoupling” that took place in the 2000s, in part due to good macroeconomic management, and which became a recoupling by mid-2008 (Dooley and Hutchison, 2009; Korinek et al., 2010).
6  BIS central bankers’ speeches  With domestic demand growing at around 3% in 2014, the fastest for ten years, all these factors will underpin the momentum needed to bring domestic cost growth back to up to a rate consistent with the inflation target. The fall in inflation we’ve experienced is in large part down to falling energy prices. It is not generalised “deflation” proper. The proportion of prices that are falling is consistent with the average over the past decade. The Bank will be vigilant in monitoring inflation expectations. Declining headline inflation seems likely to have cooled households’ inflation expectations as the prices of the goods they buy frequently – like fuel and food – have declined markedly. On balance, however, inflation expectations remain broadly consistent with the 2% inflation target. As the MPC noted in our February Inflation Report, we retain considerable policy options in the event that downside risks materialise. 6. Conclusion  The Bank of England’s inflation target is symmetric. We care as much about inflation below target as above. With inflation below target and unemployment above its long-run sustainable rate, we are aiming to return inflation to target as quickly as possible. In our most recent forecast, The Bank expects to return inflation to target within two years and to make limited and gradual increases in Bank Rate over the next three years in order to achieve that in a sustainable manner.