This was the first, and I daresay the last, time that MPC members were likened to an elite sportsman. )[2]  Chart 2: Forward interest rates and economic activity also co-moved closely before the financial crisis, less so afterwards  Six-month rolling averages. Combined IHS Markit/CIPS and CBI distributive trades lagged one month. Six-month change in one-year forward one-year LIBOR rate, spliced onto one-year, one-year OIS rate in 2022. Sources: ONS, IHS Markit/CIPS, CBI, Bloomberg Finance L.P. and Bank calculations. So if financial markets are able to react this way, without any explicit hints from the policy maker, why has there since been more communication from central banks about future policy – and more expectation of it in financial markets? What is the rationale for “forward guidance”? At least in theory there are two distinct types of guidance. The reasons for both, I think, are connected with changes in the economy in recent years. But they are quite distinct and it’s important to understand how. The first – sometimes described in the economics literature (somewhat grandiosely) as “Delphic” guidance – seeks in general to convey what is sometimes referred to as “private information” held by the central bank. This makes it sound more exciting than it really is. More often than not it means making clear to the outside world the policy maker’s view of how the economy might evolve over the future – its forecasts – and to clarify the so-called “reaction function” (how monetary policy might respond to possible future events).
This micro transformation involves three elements: first, solving locally-nominated and defined problems; second, employing nudges or smart incentives to induce desired behavior; and third, experimenting on specific markets, groups or products before a broad roll-out. I must admit that these are hardly unfamiliar concepts in business. Yet few businesses have gone further to integrate these elements within broader transformation strategies. This has increasingly been the approach taken by the Bank, in facilitating initiatives such as the FinTech innovations in the financial sector. The Regulatory Sandbox introduced last year allows for the experimentation of potentially beneficial FinTech innovations that may seem inherently risky at inception, but properly harnessed could be a game changer. By providing a “safe” or “contained” space for testing, the risk effects can be comfortably observed, controlled and calibrated. Wider applications of this approach by institutions will go a long way to cultivate a balanced banking culture of innovation and resilience. Such applications are also not confined to the area of technology. It can span across a bank’s decision to enter a new market, reform incentive structures, disrupt outdated internal processes and provoke changes in management paradigms. The possibilities are limited only by our attitude to change, our ability to adapt, and our willingness to pursue creative solutions within acceptable risk limits. Banks that will remain relevant in the future are those that have a deep understanding of the shifts in the economy and the consumer.