the rt hon sir edward george gbe : macro - economic management in the uk speech by the rt hon sir edward george, governor of the bank of england, at the 2001 institute of directors convention, london, on 25 april 2001. * * * the theme of your convention is change - and as a general observation what's always struck me about change is that it's not simply a one - off event - a discrete step from a to b. change is a continuing process - and once you've embarked upon that process it's not always clear where it will lead. you either embrace the process, notwithstanding the uncertainty, it seems to me, or you resist it, with the risk then that the world changes around you and begins to pass you by. what is certainly true - in this country but much more widely internationally - is that there has gradually over a long period been a very profound change in the approach to overall economic management. for a long period after world war ii the emphasis of macro - economic policy seemed to concentrate on aggregate demand management, with too little attention paid to the constraints imposed by the supply - side capacity of the economy to meet that demand. when growth and employment were judged to be insufficient, monetary and overall fiscal policy were used in combination to provide a stimulus to the economy, often supported by direct controls of one kind or another to suppress the emerging symptoms of increasing pressure on resources. then, as those symptoms - price pressures in goods and labour markets and increasing external deficits - could no longer be contained, the macro - economic policy levers were thrown into reverse. the go - stop policy cycle for much of this period served in fact to aggravate the economic cycle, and our overall economic performance undoubtedly suffered. we've come a long way since then in recognising that we would do a lot better by aiming at more sustainable growth in the economy, by keeping overall demand more or less continuously broadly in line with our supply - side capacity, thereby moderating rather than aggravating the economic cycle. the emphasis of macro - economic policy has therefore shifted decisively to stability and sustainability, and i will come back to that. but the shift of emphasis to stability as the objective of macro - economic management has served to focus attention increasingly also on the parallel need to improve the supply - side of our economy - for example by increasing the scope for free trade and increased market competition, both nationally and internationally ; by avoiding unnecessary regulation ; by increasing

euro weakness. we don't of course have a crystal ball. but even if we had, it is important to recognise that the link between relative interest rates and exchange rates is much more complicated - and indeed more unpredictable - than is often suggested. our own exchange rate against the euro today, for example, is actually somewhat stronger than it was before our reductions in interest rates this year ; and the dollar, too, is substantially stronger against the euro than it was before the much larger cuts in us interest rates. so, in setting interest rates, we can - and do - make allowance in our projections for what has happened, and, on a best guess, for what is likely to happen, to the exchange rate, and that may cause the exchange rate to soften or it may cause domestic demand growth to strengthen, thereby offsetting the exchange rate's dampening effect on the economy. but what we cannot do is to target the exchange rate, without putting the stability of the economy as a whole at risk. the exchange rate is just one example of the many uncertainties that confront us in our pursuit of the government's inflation target. we do not know, for example, with any great confidence what is happening in aggregate on the supply - side of the economy, nor therefore precisely what rate of growth we can expect to sustain. we can observe that there has been less price pressure in both goods and labour markets given the strength of demand in those markets than past relationships would have suggested and we can try to understand the reasons for this change. but while we do in fact make some allowance in our projections for the more benign relationships to continue, we do not actually know very much about the size of the improvement or whether or not it will persist. there are familiar uncertainties, too, about the prospective strength of domestic private sector demand growth, which remains quite robust for the time being, but which could be adversely affected by confidence effects from developments elsewhere, and which may in any event need to moderate to accommodate the planned acceleration of public spending. and substantial new uncertainties have emerged more recently, relating in particular to the extent and duration of the slowdown in the united states and to the associated weakness of equity prices, and their potential impact on our economy, as well as to the direct and indirect effects of our own outbreak of foot and mouth disease. the list could go on. but please don't think i'm complaining. we are paid to look ahead as best