Full of Passionate Intensity

An Interview with Sir Mervyn King

Octavian Report: What do you mean by radical uncertainty, from an economic decisionmaking perspective?

Sir Mervyn King: What my co-author John Kay and I mean by radical uncertainty is, in essence, uncertainty that cannot sensibly be quantified.

We've all grown up with the idea that if you are intelligent, you think about uncertainty in terms of probabilities, and there are many people who will try to interpret any kind of future uncertainty in terms of some probability. I think this is a serious mistake and it detracts from good decisionmaking.

Two examples illustrate this very clearly. One is the financial crisis and the other is the COVID-19 crisis. In both cases, we knew something. We knew that banking crises could occur. We've seen many in the past. We knew that pandemics could occur. But there was no way that we could have said: “What's the probability that there will be a virus emanating from Wuhan in China in December 2019?”. It didn't make sense to ask that question.

What it made sense to do was to say: “We can't anticipate precisely when or where, but we know that it's quite possible that there will be a virus coming from a country and that will spread to the rest of the world. So what is the right basis for being prepared or ready for this kind of event?” In the financial crisis, I think what you saw very clearly was that people relied on what we call bogus quantification. Recall the famous statement coming out of Goldman Sachs that what we were seeing was 25 standard deviations several days in a row — literally virtually impossible. What we saw was that the model that they had been using was wrong. It just didn't apply. We live in a world which is non-stationary, to use the technical phrase: things keep changing. It's not simply changing in the sense that you toss a coin and you sometimes get heads and sometimes get tails and you can't tell in advance which you'll get, but you know that on average it'll balance out at 50/50. This was something where you just didn't know what would happen. To pretend that we can quantify it is potentially dangerous because it makes you feel that you can somehow manage these uncertainties in the future by pricing them if they're financial or by making accurate quantitative predictions — when in fact we can't.

OR: Given what the economic policy response to COVID needs to be, what do you think will be its ramifications? Will we be able to get out from under the debt? Do you see inflation coming as a way of getting out from under that? What do you think the future of money is in general?

King: I think the only honest answer to those questions is I don't know. But I’ll make a few observations, which make it easier to think about it, I think. The first is that one of the arguments for being prudent about public finances in normal times is precisely to be able to allow national debt to rise very sharply and to use government borrowing to deal with an unexpected event that you can't easily imagine and certainly can't predict. This is the essence of resilience in managing the national finances. I think we've been quite good at that in much of the Western world. I think within the European Union there are serious challenges for those countries that have suffered under a monetary union, with Italy being the most obvious example, but Greece too.

For the U.S. and the U.K., it is perfectly sensible to deal with the pressure on the health services by saying: we will do whatever it takes to try and keep businesses still in operation so that when we get out of this, they will still then be able to function and the market economy can resume its normal job. That means just being prepared to borrow whatever you need to borrow it. I'm not worried about the scale of the increase in national debt as such because properly managed, we would then come out of this and say to ourselves: We have a much higher national debt now. We need to allow the ratio of national debt to national income to fall slowly over time so that we get a good run of years, and then it'll be right back to where it was.

We don't need to repay it straight away. We can just slowly let the ratio of debt to national income fall, and the best way to do that is through economic growth. That I think is all manageable. Whether or not we are able to do that will depend on two things. One is the ability of the measures that have been announced to work in practice on the ground. I don't think we are short of high-level policy announcements or various schemes to help. What we need to worry about is whether they can actually be delivered.

If we look to the future and ask: will we get inflation? I think the answer to that does not depend on the particular types of measures that central banks will take. You often hear phrases like “helicopter money” or other phrases about expanding the practices that central banks have already engaged in through quantitative easing to print money. The method used to expand the amount of money in the economy is not the issue here. What is crucially important is who makes the decision about how much money gets printed. If we come out of this crisis in a situation where governments feel that central banks have been doing lots of things but their really important function here was to act as an agent for government to deliver many of these specialist schemes and therefore the government would like to have greater control over central banks, if they carry that through to having greater control over all central bank functions, then I think inflation will indeed be a genuine concern.