Former Bank of England Head Talks About the Limits of Certainty in Financial Predictions—Including the Ultimate Impact of COVID-19
Lord Mervyn KingRadical Uncertainty Decision-Making Beyond the NumbersThe Trusted ProfessionalIt seems that, overall, you have written a book about hubris—about misplaced faith in our models, calculations and even narratives. You heavily critique the axioms on which much economic and financial analysis rests, and urge a more empirically oriented approach. Why did you think this message was so important to convey, and why now? The points you make in your book about the inadequacy of many of our attempts to predict the future and account for all risk—were these lessons you yourself had to learn over the years? Did you once believe that everything could be reduced down to statistical probabilities? If so, what led to you change your views? You often speak of the futility of trying to calculate precise probabilities of complex phenomena in the larger world and say that we need to become more comfortable with uncertainty. Yet the trading algorithms that dominate Wall Street right now are run via these sorts of calculations, and what’s more, they have no context or awareness of the real-world implications of their actions, since they are merely lines of computer code. Yet firms still find these algorithms valuable because they make the firms lots of money. Are the algorithms just making the same mistakes as humans, only faster, or have they somehow found a way to deal with radical uncertainty in a way that humans have not? You say in your book that broad diversification in a portfolio, which will be robust and resilient to unpredictable events, is the best protection against radical uncertainty. With this in mind, do you view the rise of index funds as a good example of this principle?In your book, you repeatedly stress the importance of not getting too caught up in statistics and, instead, asking broadly, “What is going on here?” So, taking a page from your book, given the chaos that we are seeing in the global economy today, what is your answer to that question? When last we spoke, in 2016, I asked about the effects of maintaining ultra-low-interest rates—or even negative-interest rates—for years on end. You said that “when you transfer spending from the future to the present, you dig a hole—time passes, and the future becomes today. So, now you cut interest rates again to bring even more spending forward, and that digs an even deeper hole. As time passes, that too becomes the present, and if you haven’t tackled the underlying problem, you create more and more of an incentive for central banks to cut rates further.” Right now, we are seeing the corporate bond market in shambles, as companies that had been able to take on debt at nearly zero cost are faced with the bill coming due. Do you think the risks you laid out during that interview are finally coming to pass? Overall, how do the points you made in your previous book, The End of Alchemy: Money, Banking, and the Future of the Global Economy, apply to today’s economic crisis?The Federal Reserve’s main strategy, it seems, is to do what it can to keep borrowing costs low so that credit can continue flowing, so that bonds can continue to be issued, so that firms can keep taking on debt. To what degree do you think this is sustainable? Are we just pushing the reckoning back a few years? Or is there something going on that is addressing the core problem? The massive aid package passed in the United States will add trillions of dollars of debt to the U.S. government. However, the Federal Reserve also said it plans to buy effectively limitless amounts of U.S. Treasury bonds, the proceeds of which will eventually be sent back to Treasury. As a result, it would seem that these bonds never existed in the first place. Is the Fed just magicking this money into existence? And, if so, how sustainable is this?Much as in the last crisis, it seems that, in this one, we are seeing central banks take unprecedented actions to shore up the economy. With the Fed’s current plans, through undertakings such as the Main Street Loan Facility and its corporate bond-buying program, is the line between fiscal and monetary policy getting blurred here? And if so, what do you make of such blurring?
