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

change in bank rate. the first plots changes in the resulting shadow rate ( as developed by de rezende and ristiniemi ( 2020 ) ) against the growth of gdp. chart 3b uses slightly different measures for the same things – the average policy vote on the mpc and a survey measure of growth6 – but the conclusion is the same. policy is tightened when growth is strong and loosened when it ’ s weak. it ’ s no surprise to find that the government balance is similarly cyclical ( 3c ) – or, therefore, that it ’ s also well correlated with the behaviour of monetary policy. furthermore, the responsiveness of policy rates to economic growth seems to be necessary to stabilise inflation. certainly inflation has been very stable under inflation targeting ( more stable, in fact, than in any 25 - year period in the 800 - year history of the estimated uk series ). and you have to go back all the way to a weighted average of the composite pmi and ( to cover the distribution sector ) the headline balance from the cbi distributive trades survey. all speeches are available online at www. bankofengland. co. uk / news / speeches and @ boe _ pressoffice the pre - wwi classical gold standard, the last time the uk had something akin to a “ target ” for domestic prices7, to find a period when short - term interest rates were reasonably well correlated with economic growth – or in which inflation was well controlled ( chart 4 ). chart 3a : monetary policy and economic activity correlated under inflation targeting chart 3b : also apparent using mpc votes and survey measure of growth sources : de rezende and ristiniemi ( 2020 ), ons and bank calculations. 6 - month averages, combined ihs markit / cips and cbi distributive trades lagged one month. sources : ons, ihs markit / cips, cbi, bank of england and bank calculations. chart 3c : government balance also cyclical chart 4 : when the monetary regime is stable policy rates are more responsive to economic growth and inflation is less volatile sources : ons and bank calculations. based on gdp growth and inflation smoothed over 2 - year periods, and bank rate changes over 2 years. sources : thomas and dimsdale ( 2017 ), feinstein ( 1991 ), o'donoghue et al ( 2004 ), ons and bank calculations. in