-Recasts Item Transmitted At 1403 GMT

LONDON (MNI) – It would be totally the wrong time to raise the
inflation target with inflation running above it, and there are costs to
switching to a nominal GDP target, Bank of England Chief Economist
Spencer Dale says.

Dale, in a question and answer session at an MNI event, raised
doubts about the idea of switching to a nominal GDP target, despite the
idea being floated, among other options, such as a commitment to keep
rates low for long, by his next boss, current Bank of Canada head Mark
Carney, in a speech Tuesday.

Dale said it was important to be open minded, but he raised some
clear objections to switching the target, and he pointed out there were
alternative to using a nominal GDP target when interest rates are at, or
very close, to zero.

“I will confess that I haven’t read Mark Carney’s speech yet. I
guess the big lesson I’ve learned from the financial crisis is that you
have to open to all sorts of different policy tools and instruments. I
didn’t expect to do half the things we’ve done three or four years ago,”
Dale said.

“The idea, I think, as floated by Mark Carney is the possibility
that when you’re at the zero lower bound one possible policy option that
you’re thinking about is a commitment to hit a nominal level of GDP over
some period of time,” Dale added.

That policy is one option, with costs attached to it, but there are
alternative ones.

“I think when we evaluate that type of policy option it’s worth
bearing two things in mind: first, there are other policy options
available to a central bank. In the UK we’ve undertaken QE and …
there’s substantial evidence to suggest that QE has had a material
impact on our economy and our economy would be in a far worse state had
we not undertaken that QE,” he added.

“A change in the policy mandate has to be evaluated against other
types of policy options. I think the second issue related to hitting a
nominal level of GDP is the way that works is a commitment to keep
policy looser for longer and there’s a question about whether just
announcing a new target is sufficient to overcome the timing and
consistency problems associated with that kind of policy,” Dale said.

Dale also warned of the problem of guaranteeing policy rates are
kept loose for a period of time.

“What this policy means … is that in two or three years time as
the economy is starting to grow, as inflation is starting to pick up,
when you would normally raise interest rates you don’t. You let the
economy overheat relative to what you otherwise would have done and you
do that because of a commitment you made two or three years ago. The two
questions it raises is, one, will people really believe you? …
Secondly, do you really want to do that?”

In his speech Tuesday Carney said a central bank could offer
guidance, as the BOC did, that the lowest possible rate would be
maintained for a fixed period of time forward, conditional on the
inflation outlook. Further, it could even “publicly announce precise
numerical thresholds for inflation and unemployment.”

Beyond such guidance, he said, flexible inflation targeting would
have to be abandoned in favor of a nominal GDP target level or price
targeting, although both had been studied by the BOC and were found
wanting for the longer haul, he said.

Dale was also dead set against the idea of raising the current
inflation target from its 2% level.

“The one time you do not ever want to raise it, is the time when
you’re having trouble getting it back down,” he said.

Dale acknowledged there was a risk to the MPC’s credibility if it
just carried on trying to explain away above target inflation outturns.

“Thus far we have been able to explain why have not tried to
bring inflation back down toward target more quickly and our credibility
appears to remain intact but it is not something that we can take
lightly,” he said.

He believes inflation is set to hold above target for some while
yet.

“We have inflation persisting above target in our forecast over the
next couple of years. I’m very comfortable with that view in the MPC’s
Inflation Report,” he said.

The last time CPI was at, or below, the 2% target was back in
November 2009.

Dale, nevertheless, insisted the MPC would get inflation back to
its target.

“I’m more than happy to have a discussion about inflation target in
ten years,” he said.

Dale rejected the characterisation of himself as a hawk on the
committee.

“We’re all trying to do the same thing. We’re all trying to hit the
government’s 2% inflation target. I don’t know what hawks and doves
means, it seems to imply that some people care more about the inflation
target than others… I’m quite pleased that you find it hard to
typecast me as a result of this speech,” Dale says.

In his speech, Dale cited relatively elevated unit wage costs as a
key factor behind the stickiness of inflation.

He denied that the wage growth had slowed less than expected
despite the increased slack in the labour market.

“I don’t think there’s prima facie evidence that the impact of
slack in the market on wage pressures has been any less than we’ve
expected,” Dale said in the Q and A.

Unit wage costs in Q2, the most recent data available, were up 4.0%
on a year ago while growth is running around flat on the year.

While pay growth has been remarkably subdued by historic standards,
with headline average earnings running just below 2%, it has not been
able to match the initial plunge, and subsequent flatlining, in output.

Dale was also asked why, if the BOE’s Funding for Lending Scheme,
which offers banks cheap funding in return for them boosting lending,
was such a good idea the BOE had taken until August this year to
activate it.

“The funding for lending scheme was designed in response to
particular problems over summer last year. They weren’t emanating from
the banking system themselves, but euro area problems were propagating,”
he said.

Dale also downplayed the significance of the Debt Management Office
move to cut Treasury Bill issuance this fiscal year rather than gilt
issuance, in response to the boost to the public finances from the gilt
coupon transfer from the BOE.

“I do fear that this issue is a bit of a red herring,” he said.

He noted the DMO’s T-bill cut only impacts the 2012-13 fiscal year,
and it is free to cut gilt issuance in 2013-14, as further coupons
payments are made.

Analysts have pointed out that cutting T-bill issuance will provide
less stimulus than reducing gilt issuance.

For the MNI piece on Carney’s speech see the 1616 ET piece: “BOC’s
Carney: Central Bank Transparency Always Beats Spin.”

–London newsroom: 4420 7862 7491; email: drobinson@marketnews.com
wwilkes@marketnews.com
sarah.mewes@ntkn.com
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