Bank links interest rates to unemployment target

 

Bank of England governor Mark Carney: "People need clarity over interest rates"

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Bank of England governor Mark Carney has said the Bank will not consider raising interest rates until the jobless rate has fallen to 7% or below.

Mr Carney said he expected this would require the creation of about 750,000 jobs and could take three years.

The UK unemployment rate currently stands at 7.8%.

The governor told the BBC: "We need to provide as much clarity and as much certainty about the path of monetary policy."

Speaking to chief economics correspondent Hugh Pym, he said such guidance was needed "so that people… at home, people who are running businesses, across the UK, can make decisions - whether they are investing or spending - with greater certainty about what is going to happen with interest rates".

He added: "In effect we are saying - 'we are providing guidance on what could happen with interest rates'."

The governor told our correspondent that such a move was needed now "when the recovery is just gathering some steam", and when financial markets might have therefore been expecting an adjustment in interest rates.

Mr Carney said that the 7% unemployment figure was not a target, but a point at which the Bank of England would re-examine interest rates.

The Bank's guidance is subject to three provisos; breaching any of them would sever the link between interest rates and unemployment levels.

These so-called 'knock-outs' are:

  • CPI inflation is judged more likely than not to be at or above 2.5% over an 18-month to two-year horizon
  • inflation looks like it could get out of control in the medium term
  • the Bank's Financial Policy Committee judges this stance poses a significant threat to financial stability

Start Quote

The Bank's new guidance makes the difficult trade-offs now facing the MPC more explicit. It does not make them go away ”

End Quote
'Renewed recovery'

Mr Carney said that until the unemployment threshold was reached the Bank would not cut back on its £375bn asset purchase programme, known as quantitative easing (QE).

The move sees the Bank of England joining both the US Federal Reserve and the European Central Bank in providing so-called "forward guidance" on interest rate policies.

Recent economic figures and surveys have suggested the recovery in the UK economy is picking up pace.

On Tuesday, official figures showed manufacturing output surged in June, while surveys have also indicated gathering strength in the service sector and housing market.

While upbeat on the prospects for the UK economy, Mr Carney said it had not reached "escape velocity" yet.

"A renewed recovery is now under way in the United Kingdom and it appears to be broadening," he said.

"While that is certainly welcome, the legacy of the financial crisis means that the recovery remains weak by historical standards and there is still a significant margin of spare capacity in the economy, this is most clearly evident in the high rate of unemployment."

'Confidence boost'

John Longworth, director general of the British Chambers of Commerce, said the forward guidance would reassure firms.

"This will give businesses a much-needed confidence boost when looking to invest, as they know that any plans will not suddenly be derailed by a hike in interest rates," he said.

Business lobby group, the CBI, echoed this sentiment, saying greater interest rate certainty and clarity from the Bank should provide a shot in the arm for business and households.

But Alan Clarke, director of fixed income strategy at Scotiabank, said unemployment could drop below 7% - the rate that would trigger a re-evaluation of interest rates - well before the Bank of England expects.

Start Quote

Home loan rates look likely to be lower for longer”

End Quote

"Our knee-jerk reaction is that 2016 is a rather conservative assumption," he said. "Our working assumption was that level of the unemployment rate could be reached at least a year earlier."

The possibility of an earlier-than-expected rise in rates lifted the pound on the currency markets, with sterling rising by more than a cent against the dollar to $1.5458.

'Significant caveat'

There had been widespread expectation that Mr Carney would commit the Bank to the new strategy.

With short-term interest rates already at historic lows, the aim is to reduce longer-term interest rates.

Knowing interest rates could remain low, potentially for years, gives banks and mortgage lenders the ability to "lock-in" customers at lower rates for longer.

Stocks fell after the announcement, with Joshua Mahony, research analyst at trading firm Alpari, saying markets had been underwhelmed by Mr Carney's announcement.

He added that rules about the circumstances in which the strategy would be terminated had brought a "significant caveat to the table".

Chart showing the UK unemployment rate since 1993
'Dismay'

The Chancellor, George Osborne, welcomed the move.

"I agree with you that forward guidance can play a useful role in enhancing the effectiveness of monetary policy and thereby support the recovery," he said in a letter to the governor.

Shadow chancellor Ed Balls also applauded the decision but warned it would be "very important that the MPC [Monetary Policy Committee] stays vigilant to inflationary risks".

George Osborne: "I very much support the decision... [People] are going to have greater certainty"

But pressure group Save our Savers expressed "dismay", saying it would cause further hardship for savers and pensioners, while continuing to favour borrowing at the expense of saving.

Meanwhile, Graeme Leach, chief economist at the Institute of Directors, said guidance "doesn't really take us forward" and called for radical supply side reforms to bring on a surge in productivity.

Supply side reforms include lower tax rates and less regulation.

The Bank of England's quarterly inflation report was more upbeat about economic growth than it had been in May.

It presents its forecasts as a range of possibilities rather than a specific figure, but predicted accelerating growth for the rest of this year, with its central forecast being for growth of about 2.4% in two years' time.

It also forecast that the consumer price index (CPI) measure of inflation was likely to be at its target rate of 2.0% during 2015.

The rate of CPI inflation increased to a 14-month high of 2.9% in June, up from 2.7% in May.

Housing bubble?

At the press conference where the new policy was announced, members of the Bank's MPC were asked whether they were concerned by claims the government's Help to Buy scheme was fuelling another housing bubble.

The Help to Buy scheme was launched in April 2013 and allows borrowers to take an equity loan from the government worth up to 20% of the price of newly built homes.

That, in turn, enables homebuyers to put down a deposit of as little as 5%.

From January next year, it will be extended to help buyers of existing housing.

Critics claim the scheme is artificially inflating house prices, leading to future problems when the support is withdrawn.

But Bank of England chief economist, Spencer Dale, said it was important to keep the size of the scheme in perspective.

"The current run rate of [Help to Buy] is something like 3% or 4% of total housing transactions," he said.

"It's done its job in terms of encouraging new house building, but the idea that it is somehow fuelling a housing boom doesn't stack up in terms of the numbers."

 

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  • rate this
    0

    Comment number 45.

    The Pound initially fell because the markets expected interest rates to remain low until the 7% unemployment rate is reached - maybe around 2016.

    However when Mark Carney then announced the 3 knockout clauses (2 of which were inflation linked), the pound rose sharply suggesting that the markets expect interest rates to rise much sooner!
    BBC TV news should give more coverage to these clauses.

  • rate this
    +1

    Comment number 44.

    It's not just everyday life which is made so difficult, for ordinary people, by high rents and property prices.

    It is also the scope of what is possible politically.

    Large parts of the tax take are spent on rents and leases, which could otherwise be used on manpower to provide better and more services: e.g food safety inspectors, border control, schools inspectors etc.

  • rate this
    0

    Comment number 43.

    Whatever he does the Left will be outraged by it and think its wrong.

    But ask them what to do beforehand and they don't have a clue.

  • rate this
    +3

    Comment number 42.

    As long as the free money for banksters (all £375 billion of it) is not affected, who cares what the unemplotment levels are? As long as the plebs are able to pay for the banksters all is well.

    Keep voting Lib/Lab/Con to keep the banksters in charge. Thank you.

  • rate this
    +97

    Comment number 41.

    What about savers? a stupid women on the news said people will go out and buy a new car on credit because rates are low. what about the thousends of older people whose saving are part of their income and low rates are leaving our income well down on.

  • rate this
    +2

    Comment number 40.

    "The unemployment threshold will hold unless inflation levels threaten to rise too fast or it poses a significant threat to financial stability."

    So if there are THREATS [how defined?] of fast rising inflation or financial instability interest rates COULD rise - even IF unemployment was still above 7%.

    Too many factors seem to make it a bit too unpredictable, really.

  • rate this
    +148

    Comment number 39.

    The problem with low interest rates is that it has shielded many who were excessive borrowers to the detriment of savers, and that is inherently unfair. House prices have not adjusted downwards to reflect the true cost of borrowed money, and this has created a high priced market which young people cannot get into. Earned interest should not be taxed when it is below the rate of inflation.

  • rate this
    +33

    Comment number 38.

    A license to go on stealing our savings indefinitely then?

  • rate this
    +3

    Comment number 37.

    "Get more people contributing to society. Then take money from them when they're about to get off their knees."

  • rate this
    +2

    Comment number 36.

    Seems a very sensible approach. As a curious aside it was tedious to listen to the UK banking leadership ( and they were still bleating over the weekend about having to pay immoral- scale bonuses to retain talent I.e gamblers) justifying ,the need to pay obscene pay rates to retain the "best" talent, but when the best banking job becomes available it goes to ....er....a Canadian..

  • rate this
    0

    Comment number 35.

    Well at least you know where your going for the next 3 years good or bad. You can plan you mortgage and finances better now you know what the short term strategy seems to be.

  • rate this
    +4

    Comment number 34.

    So, three more years of punishing the unemployed for the sins of the banking elite before 12% of them will get a job - if they are lucky - whilst for the rest of us the misery continues.

  • rate this
    +3

    Comment number 33.

    No surprises then that once again savers are being made to pay for the reckless greed of the bankers who caused this mess in the first place.

    Not helped by this unelected Con-Dem coalition, only when they are booted out of power will the economy improve.

  • rate this
    +6

    Comment number 32.

    what kind of employment...there are one million unemployed in 16-24 age group?
    what about inflation...?.
    what about the awful housing in UK, (both owner-occupier and rental)?
    it seems the government just wants to help estate agents and landlords, the rest of the population (including pensioners)
    five years and counting to sort the UK debt crisis....unbelievable

  • rate this
    +6

    Comment number 31.

    So it is a good decision for those who never save and live on credit? The reason people use to save was because wages were so low and they had to make up the shortfall somehow. Wages are still low but more people rely on credit. I'm just waiting for the bubble to burst again. And it is no good govt worrying that people don't save enough for retirement - not with people like Carney in charge.

  • rate this
    0

    Comment number 30.

    750,000 extra jobs will reduce unemployment from 7.8% to 7%?

    How many unemployed does that mean in total? The numbers just don't make sense. Thank god this man isn't in a job where a grasp of numbers is essential.

    Oh... hang on a minute...

  • rate this
    -1

    Comment number 29.

    He will leave in 5 years and let us a nice housing bubble which will drown our economy!

    Carna(e)age!!!

    Interest rates cannot impact unemployment! Unemployment is due to technology advances and the only solution is a basic income for all.
    He is just part of Crosby's group who is getting ready for the election..

    BoE independence out of the window in order to support the housing ponzi scheme.

  • rate this
    +54

    Comment number 28.

    Translated - "We're going to do all we can to prop up the housing bubble"

    What a cop out.

  • rate this
    +2

    Comment number 27.

    I thought the elected government decided economic policy not unelected employees of a bank?

  • rate this
    0

    Comment number 26.

    In a similar way to public debt, private debt is created out of thin air. Private debt is money created out of thin air as an account entry that allows the banks to create money, as described 97% Owned - Positive Money Cut; or Money As Debt (You Tube), or by banking reformer, Simon Dixon. 97% of money in circulation in money-as-debt systems is money created as debt, with compound interest added.

 

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