May 1997
The Governor
Bank of England
LONDON EC1
THE NEW MONETARY POLICY FRAMEWORK
Improving the institutional arrangements for economic policy will
be accorded a high priority by the Government in order to deliver
long term economic stability and rising prosperity. Our
Manifesto commitment is to "ensure that decision-making on
monetary policy is more effective, open, accountable and free
from short-term political manipulation". The reforms I lay out
below will put the arrangements for monetary policy-making on a
sound and stable footing for the long term.
2. Within its overall responsibility for economic policy,
including stability, growth and employment, and for setting the
inflation target, the Government intends to give the Bank of
England operational responsibility for setting interest rates.
The Government plans to provide in the Queen's Speech for
legislation to amend the Bank of England Act 1946. The Bank will
of course remain in public ownership. The legislation will set
up the new monetary policy framework, and provide for greater
accountability. It is my intention to ensure the passage of this
legislation as soon as possible.
3. This letter sets out how the new arrangements for monetary
policy-making will work and how I propose that we manage matters
during the transition.
1. The New Framework
i. Objectives of the Bank of England
4. Price stability is a precondition for high and stable levels
of growth and employment, which in turn will help to create the
conditions for price stability on a sustainable basis. To that
end, the monetary policy objective of the Bank of England will
be to deliver price stability (as defined by the Government's
inflation target) and, without prejudice to this objective, to
support the Government's economic policy, including its
objectives for growth and employment.
ii. The Inflation Target
5. The Bank will have operational responsibility for setting
short-term interest rates to achieve an inflation target which
the Government will determine. This target will be confirmed in
each Budget Statement. The Bank will be required to publish a
quarterly Inflation Report in which it will account for its
monetary policy actions, set out and justify its analysis of the
economy, and explain how it intends to meet the Government's
inflation target and support the Government's economic policy.
6. The legislation will provide that if, in extreme economic
circumstances, the national interest demands it, the Government
will have the power to give instructions to the Bank on interest
rates for a limited period. This power is in line with practice
in other countries, and could only be exercised through
subordinate legislation approved by Parliament.
iii. Exchange Rate Policy
7. The Government will be responsible for determining the
exchange rate regime. The Bank will have its own separate pool
of foreign exchange reserves which it may use at its discretion
to intervene in support of its monetary policy objective.
8. If the Government so instructs, the Bank, acting as its
agent, will intervene in the foreign exchange markets by buying
or selling the Government's foreign exchange reserves. All such
intervention will be automatically sterilised.
iv. Governor and Deputy Governors
9. The Bank will be managed on a day-to-day basis by the
Governor and two Deputy Governors. One Deputy will support the
Governor on monetary stability and the other will support the
Governor on financial stability. The Governor and Deputy
Governors will be appointed according to the existing procedure
and for five year terms.
10. I am grateful to know that you are willing to allow the
current contracts of yourself and your Deputy Governor to run
their course. The second Deputy Governor will be appointed once
the legislation has come into force, at which point the division
of responsibilities will take effect.
v. Monetary Policy Committee
11. Operational decisions on interest rate policy will be made
by a new Monetary Policy Committee comprising the Governor, the
Deputy Governors and six members. The decisions will be made by
a vote of the Committee, with each member having one vote. If
there is no majority, the Governor will have the casting vote.
The Treasury will have the right to be represented in a
non-voting capacity.
12. Two of the members will take management responsibility for
monetary policy and market operations, respectively. They will
be appointed by the Governor, after consultation with the
Chancellor, for three year terms.
13. The remaining four members will be appointed by the
Chancellor, for three year terms. They will be recognised
experts. They will be allowed to engage, with the Chancellor's
approval, in other activities which do not give rise to a
conflict of interest.
14. The intention is to move to a situation where the six
members of the Monetary Policy Committee are appointed on a
rolling basis (2 per year). There will be no limit to the number
of terms a member can serve.
15. The Monetary Policy Committee will meet on a regular monthly
basis. Any decisions on interest rates will be taken by the
Committee and announced immediately, after the Chancellor has
been notified of the decisions and proceedings of the Committee.
The meetings will be minuted, and the minutes, including a record
of any vote, will be released no later than six weeks after the
meeting. The new arrangements for release will be agreed between
us and announced this month.
16. The Monetary Policy Committee will report to a monthly
meeting of a reformed Court of the Bank, my proposals for which
are set out next.
vi. Reform of the Court
17. The legislation will set out the Court's terms of reference.
The Bank will be accountable to the Court for its operations and
finances.
18. I propose that the Court of the Bank be reconstituted to
comprise no more than 19 members consisting of the Governor, his
two Deputies, and 16 non-Executive Members. The Court will be
representative of the whole of the United Kingdom. The
non-Executive Members will be appointed for their expertise and
will be drawn widely from industry, commerce and finance.
19. The non-Executive Members will be appointed according to the
existing procedure and for three year terms. I do not intend to
increase the size of Court beyond its present size, other than
the addition of a new Deputy Governor. But, in the first
instance, I intend to appoint four new non-Executive Members, as
soon as the legislation has come into force. The non-Executive
Members will review the performance of the Bank as a whole,
including the Monetary Policy Committee. They will have
particular regard to whether the Bank is collecting proper
regional and sectoral information for the purposes of monetary
policy formation. In addition, they will be responsible for
ensuring that the internal financial affairs of the Bank are
properly conducted.
vii. The Bank's Financial Arrangements
20. The financial arrangements of the Bank will be reviewed, to
ensure that they are in line with the Bank's new
responsibilities, and appropriate standards of accountability and
transparency.
viii. Funding
21. The Bank's role as the Government's agent for debt
management, the sale of gilts, oversight of the gilts market and
cash management will be transferred to the Treasury.
ix. Accountability
22. The changes I propose will enhance accountability by
ensuring that the decision-making process is fully transparent,
by the arrangements for appointing the Court and the Monetary
Policy Committee, and by the Government's overall accountability
to Parliament for economic policy, including the setting of the
inflation target. The Bank of England will make reports to and
give evidence to the House of Commons, through the Treasury
Select Committee, on an enhanced basis, and I will write to the
Chairman of the Committee.
2. The Transition
23. It will take some months for this legislation to be enacted.
In the meantime, the following arrangements will be put in place.
i. May Monthly Monetary Meeting
24. The May monthly monetary meeting will be brought forward to
8.00 am on Tuesday 6 May. It will be held in the normal way.
It will be the last such monthly meeting.
ii. Transitional Arrangements for Monetary Policy
25. I propose to make the following announcements immediately
after the May meeting:
(a) the details of any decision taken at that morning's
meeting;
(b) the Government will provide in the Queen's Speech for
legislation to give the Bank of England operational
responsibility for setting interest rates, and to give
effect to the other reforms outlined in this letter;
(c) we have agreed to establish immediately an interim
Monetary Policy Committee. You, the Deputy Governor
and two of the
existing Executive Directors will be members of this
interim Committee. In addition, you have asked me to give
you the names of four new members of the Committee as soon
as is practicable. You will then ask the Court to appoint
them as Bank officials. I will subsequently confirm these
appointees as members of the new Monetary Policy Committee
once the legislation is in force;
(d) during the intervening period until the legislation
has come into force, all aspects of the new procedure
for making and announcing decisions on monetary policy
will operate de facto;
(e) in this interim period, you will set policy to meet
the Government's inflation target.
26. I intend to use the Mansion House speech to set out more
fully the Government's overall approach to economic policy and
how these new monetary arrangements will form part of our wider
strategy to improve the performance of the British economy in the
long term, and deliver high and stable levels of growth and
employment. I am confident that these arrangements will enhance
the credibility of UK monetary policy-making.
With best wishes.
Gordon Brown MP
Chancellor of the Exchequer