Paul Tucker: Uncertainty, the implementation of monetary policy, and the management of risk Speech by Mr Paul Tucker, Executive Director and Member of the Monetary Policy Committee of the Bank of England, at the Association of Corporate Treasurers, Newport, 19 May 2006. *  *  *  Many of us would probably say that we do not much like uncertainty, whether at work or home. But we cannot escape it, and it provides opportunities. Rather, we want to be compensated for the risk, or to mitigate it, or both. What I think we actively dislike is avoidable uncertainty. And from the point of view of society, we should dislike uncertainties that are both avoidable and especially costly to mitigate for those who bear the consequent risks. I am going to discuss some sources of avoidable uncertainty – or volatility – that have affected you as corporate treasurers. And I will discuss some unavoidable sources of uncertainty, and what they might mean for risk management, at the level of firms and of the financial system as a whole. Avoidable uncertainties: the monetary regime, and the implementation of monetary policy For too many years in the UK, we lived with a large but avoidable element of macroeconomic uncertainty. It was unclear what rate of inflation households and businesses should expect to prevail over the medium-to-long run. In other words, it was unclear what policymakers were trying to achieve; whether their goals shifted about; and whether policy makers would succeed in delivering those goals.
As a result, financial stability is more of a collaborative task undertaken by various administrative bodies. The division of tasks in the area of financial stability varies from one country to another, but in the wake of the recent financial crisis, there has been a shift in attitude towards that division. Before the crisis, there was the tendency to believe that financial and monetary stability were well enough served if monetary policy focused solely on the inflation target, with interest rates as its primary tool, and if financial supervision and the regulatory framework aimed primarily at ensuring that individual financial institutions were sound. The market would then take care of the rest. Experience has shown that this view was too narrow, and in many places it is being abandoned. To a degree, this entailed a compartmentalisation of central banks’ previous tasks. Some countries – the UK, for instance – are addressing this problem by reverting to central banks with a wide-ranging role covering monetary and financial stability. But this is not the only viable response. Here in Iceland, the Financial Supervisory Authority and the Central Bank have stepped up their collaboration on systemic risk analysis and exchange of information. These efforts have borne fruit, and the collaboration between the two institutions is good, but it would be imprudent to let success rest mainly in willingness to cooperate, which could change with a change of actors. As a result, it is important to strengthen the statutory framework so that it can provide better support for these efforts.