To offset the impact of a shock on RPIX inflation in less than a year or so might imply undesirable volatility in output. BIS Review 63/1999  4  Hence the MPC has been given “constrained discretion” concerning the horizon over which it tries to bring inflation back to the target level. The appropriate horizon depends, in general, on the type and persistence of the shock. There is no simple rule to determine the appropriate horizon. It depends on the nature of the shocks. That is why the MPC spends so much time trying to unravel recent economic history. On average, since shocks may take several months to have their full effect, a horizon of about two years is a reasonable one over which to bring inflation back to its target. But if shocks are sufficiently large – in either direction – then it may be sensible to aim to bring inflation back to the target level over a somewhat different horizon. In such circumstances, the MPC would make that clear both in the minutes of its meetings and in the Inflation Report, and, if required, in an open letter to the Chancellor. Common objectives versus individual accountability During its first two years, the MPC has had to develop a modus vivendi to manage the potential tension between operating as a team with a common objective, on the one hand, and the requirement for individual accountability of its members, on the other.
There is no doubt that in the past few years saving has been particularly high in the Asian economies. In part, this reflects their wish to build up large balances in US dollars to protect themselves from financial crises that several of them experienced in the 1990’s, and also to maintain competitive exchange rates to allow export industries to absorb surplus labour. For example, although China invests an extraordinary 45% of its national income each year, it saves even more than this - 49% of national income in 2004. The resulting current account surpluses have been saved overseas, much of them in US government bonds. So, rather surprisingly, capital is flowing from some of the poorest countries of the world to some of the richest. Moreover, the rise in oil prices has raised the incomes of oil-producing countries, which have also chosen to save much of their additional revenues in overseas financial assets. Those surplus savings have depressed long-term real interest rates. In the industrialised world, consumers have realised that this is a good time to borrow and spend, resulting in the “imbalances” evident in the current account deficits of both the US and the UK. Whether long-term real rates around 1% are sustainable is an interesting question, and that uncertainty poses serious questions for monetary policy. On the one hand, the increased propensity to save across the world could start to unwind.