47  11  All speeches are available online at www.bankofengland.co.uk/speeches  11  Looking to the Future Looking to the future, there are many potential areas where these new sources and new techniques could be expanded to improve the Bank’s understanding of the economic and financial system. From a long list, let me discuss one which I think holds particular promise. Behavioural economics has, rightly, made a big splash over the past several years in re-shaping economists’ thinking about how human decisions are made. Human decisions and actions deviate, often significantly and 49  consistently, from the rational expectations norm often assumed. Rules of thumb and heuristics dominate  human decision-making. And the expectations formed by people are often shaped importantly by history, emotion and others’ actions, every bit as much as by rational calculation. These behaviours appear to be important both for individuals (micro-economic) and for societies (macro-economic). For example, the popular narratives which develop in financial markets and in everyday public discourse have been found to be important empirical drivers of fluctuations in asset prices and in 50  economic activity. These narratives may be particularly important at times of economic and financial  stress, when emotions run high and social stories take on added significance. Yet when it comes to measuring these behaviours, at either the micro- or macro-economic level, our existing methods are often poorly-equipped. Capturing people’s true sentiments and preferences is devilishly difficult.
37  8  All speeches are available online at www.bankofengland.co.uk/speeches  8  the hours immediately after the de-pegging. By analysing trade repository data on forward contracts for the Swiss franc-euro exchange rate, some of the drivers behind these moves could be detected. 40  For example, high-frequency movements in the Swiss exchange rate can be compared to the volume of trades in forward contracts. These trades can be further decomposed by counterparty – for example, large dealer banks versus end-investors. This type of decomposition technique shows that it was the withdrawal of liquidity by the large dealer banks that caused the overshoot of the franc – a classic sign during times of 41  market turmoil. This move partially reversed once dealers resumed market-making. The trade repository data can also be used to assess whether the franc de-pegging had any lasting impact on market functioning. The Bank’s research found it did, with a persistent fragmentation in the franc forwards market. Liquidity and inter-dealer activity was structurally lower, and market volatility persistently higher, after this episode. The extra granularity of these data makes it possible to tell a quasi-causal story about the drivers behind the V-shaped movement in asset markets after the de-pegging. Using tick-by-tick and trade-by-trade data side-by-side allows identification of the triggers and amplifiers, in a way which would not otherwise be possible. A second example of research using higher-velocity data to improve our understanding of economic dynamics comes from the labour market.