As part of my revision, I studied the inflation rates since the Second World War for several different measures of inflation. They were all at or very close to 3% a year. No-one in Cambridge at that time – and certainly not the students that were to become part of the inflation generation – heeded the late Richard Kahn’s warning that creeping inflation was about to accelerate. The rest, as they say, is monetary history. I would like those of you revising for your final exams this month to be able to look back in thirty years time and recall that the year in which you graduated was when we finally laid to rest the idea that the UK was an inflation-prone economy. Inflation was the norm for most of my adult life. It should not be in yours. BIS Review 63/1999  8  Why then, you may ask, do we need to build a constituency for low inflation? There are two reasons. First, it is important that support for low inflation not wane as the experience of high and unstable inflation of the past recedes. It would be a counsel of despair to believe that the inflationary excesses of the recent past would have to be repeated in order to retain support for low inflation. Yet, in a recent survey of households in Germany, Robert Shiller2 found that support for stability was much higher among those who had experienced hyperinflation.
Despite that, inflation has been above the target more often than it has been below – in fact, it has been below the target in only one month so far since the MPC was set up. As the benign effects of those temporary external influences on inflation start to wear off, the challenges facing the MPC will become, if anything, even greater than those in its first two years. If the time lags in the monetary transmission process mean that it is too early to judge the MPC on its inflation track record, then what other criteria for assessing its performance might be relevant? One measure would be expectations of future inflation. Following Gordon Brown’s announcement of Bank independence on 6 May 1997, inflation expectations in financial markets fell sharply. Chart 2 shows the expected inflation rate at different horizons implied by yields on conventional and index-linked government bonds. These expectations fell by about 0.5 percentage points on the day of the announcement. Since then inflation expectations have fallen further. Chart 3 shows the way in which two particular measures of inflation expectations have evolved since May 1997. The first of these measures is the expectation of inflation ten years ahead implied by bond market yields. The second is a Consensus Economics average of the expectations of inflation five years ahead held by economic forecasters. Since 1997, inflation expectations on both measures have steadily fallen towards the target, and the economic forecasters’ expectation has now become firmly anchored on the target.