Andy Haldane of BoE discusses the issue in this speech.
He first lists the behavioral biases and then suggests what central banks can do to overcome the biases:
Preference biases – where the decision maker might put “personal objectives over societal ones, such as personal power or wealth”
Myopia biases – “people differ materially in their capacity to defer gratification” and studies suggest that people who show greater patience “outperform their impatient counterparts in everything from school examinations, to salaries, to reported life satisfaction”.
Hubris biases – over-confident individuals are “more likely to be promoted to positions of influence” but tend to pursue “over ambitious targets” like “undertaking over-complex company takeovers. That way nemesis lies”
Groupthink biases – people tend to adapt their view to confirm to those around them and also have a “tendency to search and synthesize information in ways which confirm their prior beliefs”.
There is little doubt that central banks have suffered from either all or some of these biases over the period with hubris bias being the biggest.
BoE (and others in their own ways) have tried to get out of these biases:
To tackle preference bias, the Bank’s does not set its own objectives. It has three policy making committees – for monetary policy (MPC), financial policy (FPC) and prudential regulation (PRA Board). In addition, “to ensure the actions of the Bank’s policy committees are well-aligned with society’s wishes” their targets are “set ex-ante in legislation by Parliament acting on behalf of society”.
To prevent myopia, the Bank of England has been made independent from government when choosing how to set monetary and financial policy to achieve their respective objectives. These decisions have been given to an institution “whose time horizon stretches beyond the political cycle”. Andrew suggests that central bank independence has been successful at taming “the inflation tiger” but he warns that “as some countries are finding today, the tiger is capable of biting back” in the form of low and falling inflation expectations. Andrew notes that while inflation expectations in the UK have held up pretty well, this is something he is “watching like a dove.”
To guard against Hubris at the Bank, “all policy decisions … are made by Committee rather than an individual” which “provides some natural safeguard against over-confidence bias”. Andrew notes that external MPC members have contributed importantly to the diversity of opinion on the committee “on average they have been around twice as likely as internals to dissent from monetary policy decisions”.
Finally to ward off groupthink, each member of the policy committees is individually accountable for their vote or view, and this should encourage “a variety of analytical perspectives”. That said Andrew notes that analysis of MPC minutes suggests that they did not devote enough time to discussing banking issues in the run up to the financial crisis, something that in hindsight, “looks like a collective analytical blind-spot”. He argues that despite all the changes to the Bank’s policy responsibilities since the crisis, “it is too soon to tell whether any remaining blind-spots remain”. Also, in his view “improvements to the Bank’s forecasting process have some considerable distance still to travel”.
Have these committees worked? I mean it just has people with very similar backgrounds trained in the same kind of economics. How can views be any different? We make a big deal of dissents. Have these dissents dissuaded the chief of the central bank from taking a different path? All we have is hype around dissents, nothing more nothing less. Groupthink continues despite committees
Much of fight against inflation was brought during highly comfortable global times. We are now seeing serious limitations on what central banks can achieve on inflation as well. Despite so much easing, deflation pressures remain in most adv economies. This is against expectations that we will have high inflation due to these policies by many experts. The standard ideas have just failed really. But hubris continues..
All these biases can only be avoided if alternate schools of thought are encouraged in economics. The subject should be more interdisciplinary and humble. Just by saying we have committees and encourage diversity, it does not happen. When most students are made to think in one standard way, diversity is just a myth and groupthink a reality..