Monetary policy is not all about pulling levers

I’M A big fan of the Bank of England museum. I find the way it attempts to educate children about how monetary policy is conducted to be charming. There is an exhibit with a tube of clear plastic containing a ball. The tube is “balanced” when the ball is level with a marker for 2 per cent inflation, and there is a lever labelled “interest rate”. As you pull down on the lever, the tube rotates and the ball shoots over 2 per cent. If you pull up, the tube moves in the opposite direction. Just as you grasp the mechanistic relationship between the target and the tool, “economic shocks” are added to send the tube into constant motion.

They also have a large replica hot air balloon, once again serving as an engaging representation of monetary policy. Just pull the lever, and watch the impact on inflation. It is a live version of the computer game they have on their website, which I encourage students to play. Not so that they understand monetary policy, but so that they understand how central bankers view monetary policy. [Find it at: www.bankofengland.co.uk/education/inflation/balloon/balloon.htm]

At the San Francisco Federal Reserve museum the point is the same but the scale bigger. A massive sphere annotated with terminology rotates in every direction and the viewer is invited to place a small magnet on a recoilable cord onto the appropriate symbol on the ball. Once you’ve “locked on” your aim is to direct the movement, being careful not to make any sudden yanks given that the magnetic force binding the magnet to the sphere is weak. I have to confess to being flummoxed as to what symbolises what (is this the economy? Or the globe?), and indeed if Ben Bernanke seeks to lobby Congress for bigger “magnets”. But it’s all good hands-on entertainment.

This computer game is more advanced than the Old Lady’s – not only must you control inflation but also employment. You have 16 “quarters” in which you need to respond to different news headlines with a decision on the Federal Funds rate, attempting to keep both indicators on track. Of course this is fiendishly hard, and at the end of the game the chairman of the Fed is inevitably forced to retake control and sort things out. The lesson for children is that monetary policy may appear simple, but it is really quite difficult and best left in the hands of the experts.

As a member of the IEA’s Shadow Monetary Policy Committee I felt obliged to keep playing the game until I managed to gain reappointment. It was a delightful way to spend a lunchtime. The complexity of monetary policy is the right lesson, but not perhaps its enthusiam for the power of experts to step in and save the day. Perhaps such stories work for children, but they are certainly not suitable for politicians.

Economic education is a laudable aim: successful monetary policy relies on public understanding of economic issues as well as central expertise. But simplification runs the risk of trivialisation, and projecting the wrong metaphor can do more harm than good. The economy is not a balloon and central banks don’t have hold of any levers. It’s far more complicated than that.

Anthony J. Evans is Associate Professor of Economics at London’s ESCP Europe Business School, and Fulbright Scholar-in-Residence at San Jose State University.

His website is www.anthonyjevans.com.