Carolyn Wilkins at a news conference on July 15, 2020 in Ottawa.Adrian Wyld/The Canadian Press
Carolyn Wilkins has some advice for central banks considering thorough reviews of their governance and processes, in the wake of the COVID-19 and inflation crises.
First, yes, do it.
Second, “It’s important to do it in a way that’s not a witch hunt.”
The former senior deputy governor of the Bank of Canada spoke with me just days after a three-person panel, of which she was a member, released their recommendations for changes at the Reserve Bank of Australia. Their report concluded an eight-month review, which was triggered by intense criticism of the central bank and its governor, Philip Lowe, for their handling of the postpandemic inflation surge of the past two years.
The conditions were certainly in place for the review to devolve into a witch hunt. Several members of Australia’s governing Labor Party – which launched the review shortly after coming into power last year – have publicly suggested that Mr. Lowe be replaced when his seven-year term expires in September. Critics of the government had been concerned that it would use the review to make the RBA and Mr. Lowe its scapegoats for the country’s problems with inflation (currently 7 per cent), soaring borrowing costs (the RBA’s key rate is 3.6 per cent and still rising), and slowing economy.
Instead, the review panel focused on an examination of the decision-making structures and policy framework at the RBA, which Australia hadn’t done in a quarter century. The resulting 51 recommendations, which the government has already accepted “in principle,” include some substantial changes, most notably placing rate decisions in the hands of a new committee of monetary experts. (The RBA’s current practice is for the governor to present his recommendation for approval by the bank’s board of directors, which is made up mostly of business executives with no expertise in the nuts and bolts of monetary economics. In practice, that structure has left the decision almost entirely in the hands of the governor.)
The review has been closely watched in central banking circles; many of the RBA’s global peers have faced similar questions about their performance and their accountability through the COVID-19 and inflation crises. Indeed, the criticisms and political pressures directed at the RBA will sound entirely familiar to anyone who has followed the Bank of Canada over the past three years.
Probably the biggest misstep both Canada’s Tiff Macklem and Mr. Lowe shared was their reliance on what central bankers call forward guidance – an explicit pledge regarding the terms under which they would begin raising rates, designed to provide certainty to nervous markets and consumers. Specifically, both governors stated that they didn’t expect to raise rates for a long time – Mr. Lowe pegged his time frame to 2024, while Mr. Macklem’s estimate was 2023. When both central banks began to raise rates rapidly in 2022, critics cried foul.
Ms. Wilkins, who left the Bank of Canada’s No. 2 job in late 2020, said the episode has been a hard lesson around the use of forward guidance and the public’s understanding (or lack thereof) of what central bankers mean when they make such pledges.
“All the extraordinary tools that were used [in the pandemic], including forward guidance, need to have a good review – in terms of their effectiveness, were they designed as efficiently as they could have been,” Ms. Wilkins said.
“One of the things [the panel] thought through is that it’s very difficult to say [forward guidance], and then have people understand the conditionality around that,” she said. “Governor Macklem [and] Governor Lowe were not saying this was a promise – they had conditions around it. But that [conditionality] was not something that stuck in people’s minds. That’s not the fault of the people who were listening. It’s up to the central bank to be as clear as possible.”
She suggested that central banks could address this problem by including in their regular monetary policy reports an analysis of “scenarios” showing possible different outcomes that could affect the timing of the resumption of rate changes.
“That makes it real in people’s minds how that path for interest rates could be different.”
What the RBA and the Bank of Canada have gone through isn’t unique. Central banks around the world got fooled by the inflation surge that began in 2021, and have been scrambling to catch up over the past year. What was unique was the economic upheaval caused by the pandemic, which didn’t fit any past scenarios that were built into the predictive statistical models on which central banks depend.
“The models would never in a million years have captured what actually happened,” she said.
But one of the lessons that Ms. Wilkins hopes other central banks take away from the RBA process is that a review of what went wrong over the past few tumultuous years doesn’t have to be seen as an admission of failure. Her experience at the Bank of Canada – where she laid much of the groundwork for the 2021 policy framework review, which the bank conducts every five years – taught her that it’s healthy for a central bank to regularly reassess its practices.
“It’s important to step back and have an honest review of what went well and what went wrong,” she said.
“I would worry, a lot, if central bank governors weren’t admitting that there were things that could be done better. The fact that they are saying that, and they are saying that they’re going to do the postmortems and the reviews, is a really comforting sign – an adult sign.”