LONDON (MNI) – Bank of England Governor Mervyn King argues monetary
policy should provide stimulus to help smooth the rebalancing of the UK
economy from domestic demand-led growth to export-led growth and notes
that the more reliable indicators of future inflation remain “extremely
subdued”.
In a speech to be delivered Tuesday, King stops short of making any
explicit call for renewed quantitative easing. The BOE governor,
however, highlights barely existent growth in broad money, says domestic
spending has fallen before net exports have risen and argues monetary
policy should be used actively to smooth the economy’s transition and
meet the inflation target.
His comments will fuel speculation he could back further monetary
stimulus in the near term.
King said to rebalance the UK economy, it needed to boost exports
as domestic spending is curbed, but warned that the process will not be
smooth.
“Unless the fall in domestic spending coincides with the necessary
increase in net exports the path for the economy will be bumpy,” King
said, adding “domestic spending has already fallen before a pickup in
net exports.”
“This highlights a key role for monetary policy: smoothing the
adjustment process by providing temporary stimulus to demand while the
rebalancing takes place, so reducing the risk of inflation falling below
the target in the medium term,” King said.
He continued in this vein, noting that monetary policy remained a
“potent tool” which could ease the path of the UK economy through this
transitional period:
“Our prospects remain closely linked to developments in the rest of
the world. But we can influence the outcome, with monetary policy still
a potent weapon to ensure that the amount of money in the economy is
growing neither too slowly, as in the recent past, nor too quickly so as
to reignite inflation.
The BOE governor said near the conclusion of his speech that “not
only can monetary policy play a role in smoothing the rebalancing
process, it needs to do so if the outlook for inflation is to remain in
line with the 2% target in the medium term.”
KEY INFLATIONARY PRESSURE INDICATORS “EXTREMELY SUBDUED”
Recent UK inflation outturns have been well above the 2.0% target
set for the BOE’s Monetary Policy Committee. Some analysts have cited
this as a constraint on the committee agreeing further monetary
stimulus.
In his speech to the Black Country Chamber of Commerce King,
however, reprised one of his long standing themes – that current
inflation only matters in so far as it is a guide to future inflation.
“The key question is whether the current inflation rate signals
that inflation will persist above target,” he said.
King said the MPC is “conscious that the continuing high level of
inflation poses the risk that inflation expectations may move up. And it
may be some while before inflation returns to target.”
While increased inflation expectations pose an upside risk “there
is also a risk – at least as large – that once the temporary upward
influences on inflation dissipate, the influence of spare capacity in
the economy will push inflation below the target.”
The BOE Governor cited the softness of a number of inflation
indicators, which he said were consistent with inflation falling back
below target.
“Consistent with that possibility, a range of other indicators –
growth in broad money, pay, and the pressure of demand on supply, that
together are likely to be a more reliable guide to inflationary pressure
looking ahead – all remain extremely subdued,” King said.
“The amount of money in the economy as a whole, broad money, is now
barely growing at all. That is restraining activity and pushing down the
outlook for inflation,” King said.
The MPC has split over where policy should go, with MPC member
Andrew Sentance voting for a rate hike and his colleague Adam Posen
making the case for more quantitative easing.
The BOE Governor acknowledged these differences, saying “because
there are risks on both sides of the outlook, reasonable people can
disagree about the monetary policy judgement.”
“In setting policy today the only coherent approach is to balance
those two risks,” he said.
PRE-G20 KING CALLS FOR GRAND BARGAIN TO REBALANCE WORLD ECONOMY
Away from the domestic economy, and in the run up to the G20 in
South Korea this coming weekend, King used the speech to highlight the
imbalances prevalent in the world economy.
He highlighted the tensions between the surplus and deficit
economies, and warned of the risk of protectionism unless the causes of
the tensions are addressed.
King said tensions between deficit and surplus nations were clearly
on show at last week’s IMF meetings in Washington where all the talk was
of currency conflicts.”
The BOE Governor said the international spirit of co-operation has
faded, and “the need to act in the collective interest has yet to be
recognised, and, unless it is, it will be only a matter of time before
one or more countries resort to trade protectionism as the only domestic
instrument to support a necessary rebalancing.”
What is needed now is a ‘grand bargain’ among the major players in
the world economy. A bargain that recognises the benefits of compromise
on the real path of economic adjustment in order to avoid the damaging
consequences of a move towards protectionism,” King said.
He said while exchange rates must be part of such a bargain, they
would “follow a higher level agreement on rebalancing and sustaining a
high level of world demand.”
–London newsroom: 4420 7862 7491; email:
drobinson@marketnews.com/dthomas@marketnews.com
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