But the extraordinary stability of the past decade may have given people an exaggerated idea of what to expect of monetary policy. While the Bank can deliver low inflation, we cannot reliably deliver rock steady growth in output and employment, still less falling unemployment. Whether or not that happens depends on events in the wider world – what economists like to call ‘shocks’ - and other economic policies, including taxes and regulations. All we can do is try to keep demand growing in line with supply. And in fact, most economists a decade ago would have said that the Great Stability, as we have experienced it in the UK, represented a pretty unlikely set of outcomes. The then Governor, Eddie George, said he hoped that low inflation would contribute to a more stable economy but warned: ‘We cannot hope to achieve that with any great precision’ 2 . The MPC’s formal remit from the Chancellor, originally drafted nearly a decade ago and still in force, seems to be predicated on a more turbulent world. It makes specific allowance for situations in which inflation might be thrown sharply off course. It reads: ‘The framework is based on the recognition that the actual inflation rate will on occasions depart from its target as a result of shocks and disturbances. Attempts to keep inflation at the inflation target in these circumstances may cause undesirable volatility in output.
This strategy of relaxing monetary policy once a bubble bursts certainly makes the creation of bubbles more likely. But while the mop-up strategy worked in some earlier episodes, it failed miserably during the biggest collapse in decades. I will return to this point below. In summary, financial fragility played a crucial role in explaining the origin and magnitude of the crisis. But financial fragility was related to poor regulation more than monetary policy. Having said this, it can be still argued that the original sin in this case was a “relaxation” (loosening) of their financial stability responsibilities by some central banks and the inability of the existing supervisory bodies to adequately monitor aggregate financial stability. 2  BIS Review 76/2010  The objectives of central banks Given the magnitude of the financial crisis we faced, there is always a discussion on whether the objectives of central banks were the right ones or if they should be changed. As I mentioned before, the financial crisis was mainly related to a poor implementation of a key task of central banking. Nevertheless, it will be useful for the ensuing discussion of the challenges of implementation of central bank tasks to evaluate first their current objectives. Should the objective of price stability be changed? Broadly speaking the answer is no. For a start, central banks need to retain a clear mandate for price stability. Inflation is costly and should be avoided, and this has to be done by the monetary authority.