INTEREST rates will not rise until well after the general election, the Bank of England has signaled, as it warned that inflation may soon fall below 1 per cent.
In a sharp change of tone since August, the Bank rubber-stamped market expectations that rates would remain at a record low of 0.5 per cent until October next year, or even later.
Mark Carney, the governor, blamed a “softer” global economic backdrop for the eight-month delay, which sent the pound tumbling on foreign exchange markets.
The weakening global economy has driven down food and commodities prices, the Bank said, and persuaded it to change its inflation outlook. Oil prices are 20 per cent lower than last year and food inflation is at its weakest since 2002.
Inflation is expected to drop to 1 per cent at the start of next year and remain marginally below the 2 per cent target at the end of 2017, even with interest rates forecast to be only 1.5 per cent at that point.
In August, the markets were predicting that rates would hit 2.25 per cent by the end of 2017.
The Bank added that inflation was “more likely than not to fall temporarily below 1 per cent at some point over the next six months”. At that level, Mr Carney acknowledged that he would “have to write an open letter to the chancellor” explaining why it was more than a percentage point off target.
The Bank’s latest outlook was its most doveish yet and in stark contrast to Mr Carney’s intervention in June, when he warned markets that rates might rise sooner than expected.
His comments at the time convinced traders that the first move would be this month. The governor has now signalled that rates will be on hold for almost a year longer.
Later and slower rate increases will help to shield Britain against the weakening global outlook by “providing some additional stimulus”, Mr Carney claimed.
Were it not for the more gradual path of projected policy, the Bank would have downgraded its GDP forecasts for much of the next year by about half a percentage point.
The bulk of that was due to “weakness abroad” and a little from the cooling UK housing market, Mr Carney said.
Thanks to the offsetting effect of slower rate rises, the Bank continues to expect 2014 growth to be 3.5 per cent, with quarterly growth of 0.6 per cent in the three months to December. Its projection for next year was revised down slightly from 3 per cent to 2.9 per cent.
The Bank maintained its estimate of “slack” in the economy, or unused potential, at 1 per cent, despite an improving jobs outlook. Unemployment is expected to fall to 5.7 per cent by the end of this year, below its August forecast of 5.9 per cent and close to its equilibrium rate of 5.5 per cent — the level at which inflation pressures theoretically start building.
The improving labour market and the imminent prospect of real pay growth, after the sharp fall in inflation, will underpin the recovery and ensure “conditions continue to normalise”, Mr Carney said.
The Times
