the case for broadening the goals of monetary policy would be strong. but i believe there are tools better suited to make the financial system more robust and i want to consider one of them – capital requirements – and how they might in future interact with monetary policy. more immediately, problems and fragilities in the banking sector remain and pose risks that the recovery in demand and activity we have seen across europe – including in the uk – falters. but in the uk we have also seen cpi inflation rise to a level that is significantly above the inflation target. in recent months cpi inflation has begun to fall, but remains well above the 2 % target level and that makes setting monetary policy difficult. we continue to face the problem of balancing risks : risks that inflation of 1. 0pp – 1. 5pp above target lasts long enough to become ingrained in expectations and affect behaviour so that it is hard to bring down, versus risks that the recovery in output becomes weaker and then disappears, leaving inflation pressures lower than is consistent with the target further ahead. since the financial crisis towards the end of 2008 economic policy has been unusually hard to manage. both monetary and fiscal policy have been exceptionally expansionary. there has been an extremely large fiscal deficit. fiscal policy is now being tightened. i look forward to the day when it will be appropriate to tighten monetary policy since a return to more normal levels of interest rates would be a welcome sign that economic conditions were also more normal. but i do not think that is where we are today. so since i joined the mpc just over a year ago i have not voted to increase interest rates – despite the fact that inflation has more often than not been above the target. but even though price rises over the past year have been running at relatively high levels, the underlying domestic inflationary pressures are not strong. wage rises – despite a move up in household inflation expectations – remain low. without a pick up in wage inflation i find it hard to think it at all likely that inflation being significantly above target is sustainable. of course wage pressures may build significantly over the next year or so, though i do not believe this is the most likely outcome. and risks of an extended period of low growth – which would further weaken those pressures – are real. in talking about the possibility of an extended period of low, or no, growth i may sound blase about inflation risks. but the point about risks is that more than one can exist. there are risks that inflation stays

fiscal position. even a notionally independent central bank could do nothing to affect it. purchases of government debt by the central bank, for example, would do nothing to depress their yields. ( indeed, if they served only to reinforce the central bank ’ s subservience, thereby pushing up expectations of future inflation, qe could actually raise bond yields. put another way, the policy can only work as intended to the extent the framework is credible – if it ’ s generally accepted that deficits are controlled by conventional fiscal measures and monetary policy is devoted to a fixed nominal objective. ) there is also the potential, in this extreme situation, of a positive feedback between inflation expectations and inflation itself, and an associated risk of hyperinflationary spirals. when inflation expectations rise, the expected cost of holding zero - interest money goes up as well. reluctant to hold on for very long to the paper the government is using to fund itself, people spend it straightaway, feeding the inflation and confirming those prior expectations. whether inflation is actually an efficient tax – whether the economic harm it causes is worth the fiscal benefit – is far from clear. certainly an extra bout of inflation that ’ s fully anticipated, and that therefore raises nominal interest rates and bond yields in advance, does very little to improve the government ’ s financial position, and even less now than in the past. that ’ s because the public sector has almost nothing in the way of zero - interest liabilities. if higher inflation and nominal growth pushed up the demand for physical cash the government might make a little more from that source. ( the economic value of cash is higher than the cost of producing it. the difference, known as “ seigniorage ”, is a source of revenue for the public sector3 ). but the sums involved are on their own, the instruments of policy are not a reliable way to discern whether there ’ s “ monetary finance ” of the government. but they may be more informative alongside other information. for example, if the central bank is easing policy in the face of clear inflationary pressure that might suggest it ’ s putting weight on some other objective : the joint behaviour of instrument and target can be informative. it might also tell you something if the central bank eased policy and, at the same time, the authorities introduced restrictions to limit or prevent people from selling the government ’ s debt. that way, the central bank might be able to reduce borrowing costs for the government alone