–Sees “Significant Risks To Delay” In Hiking Bank Rate
–Early Hike Doesn’t Mean Bank Rate Will, On Avg., Be Above Market Curve
LONDON (MNI) – Bank of England Monetary Policy Committee member
Martin Weale has renewed his case for an immediate hike in Bank Rate,
and he said there were “significant risks to delay.”
Weale’s comments make clear he again backed policy tightening at
the June MPC meeting – although the minutes are not out until June 22.
Weale, in a speech to the Finance Directors’ Strategy Meeting here, said
a rate hike would reduce speculation the MPC has departed from its
The MPC member argued that a rate hike now may even reduce the need
for greater monetary tightening in future, and that Bank Rate could rise
by less than the market is currently pricing in.
Weale first voted for a rate hike in January and was one of only
three MPC members to back a hike in May. With economic activity data
coming in weak markets have pushed back the timing of the first hike
further and further into the future in recent days and weeks.
Weale noted the concern of his colleagues on the MPC with the loss
of output in the UK economy in the wake of the credit crunch, with
growth 10% lower at present than it would have been had it continued at
its trend rate since 2008.
“Given this output loss, it is understandable that most members of
the MPC are reluctant to raise interest rates,” Weale said, but he set
out why “it is appropriate for the Bank Rate to be increased from its
current very low level.”
Central to Weale’s arguments are the credibility of the MPC’s
commitment to its inflation mandate, which stipulates it should hit a
2.0% CPI target, against the background of the BOE’s own forecasts which
showing inflation set to run at more than double this rate.
“The May Inflation Report forecast sets out clearly that there is a
need for monetary policy to tighten. Arguments can be produced for
delaying the start of that tightening process. But there are significant
risks to delay,” Weale said.
The May report showed, based on market rate assumptions, that CPI
would rise from 4.5% in Q2 this year to 4.96% in Q3 and would stay above
its 2.0% target until Q1 2013, before flattening out at 1.9%.
If Bank Rate was held steady at its current, record low, 0.5% then
the May Inflation Report showed CPI holding above its 2.0% target for
the next two years. Weale dismissed the idea of leaving Bank Rate flat.
“The reality is that any policy of holding the interest rate
constant is likely to be unstable. The MPC must be prepared eventually
to address above-target inflation by higher nominal and real interest
rates,” he said.
Weale said he was “broadly comfortable” with the Inflation Report
forecasts and that if Bank Rate was hiked now, it could ease the
pressure for further hikes later.
“It needs to be understood that an early rise in rates does not
itself imply that, averaged over the next three years, monetary policy
is … going to be tighter than the market curve, even after its recent
fall, suggests. What it will do is reduce the speculation that the Bank
has departed from its inflation mandate,” Weale said.
On current implied market rate expectations, based on ICAP SONIA,
the market is not fully pricing in a 25-basis-point hike in Bank Rate
until May 2012, with a second in November. The curve shows Bank Rate
rising steadily through 2013 and on into 2014.
Weale said that the arguments for an early rate hike were “valid
even if inflation is expected to be appreciably weaker than was forecast
“Even with weaker expected inflation it remains likely that more
than a trivial increase in Bank Rate will be needed over the next two
years and that beginning the process will make it much easier for the
Bank to preserve its credibility should inflation turn out to be higher
than expected,” Weale said.
The challenge the MPC is facing is how to set monetary policy at a
time of weak growth and high inflation.
Weale’s solution is to ensure monetary policy remains stimulative,
but nevertheless to hike Bank Rate from its record low level.
“Slack monetary policy is needed to support the economy but surely
something needs to be done to deal with inflation, at least unless there
are good reasons to think that it will fade away of its own accord,”
Hike Now Gives Greater Policy Flexibility
In his view, hiking now actually gives the MPC greater policy
flexibility than if it delays, and hikes can even be reversed if needed.
“An early increase in Bank Rate makes it more likely that the
inflation target can be met in two to three years time because it allows
for greater subsequent flexibility,” Weale said.
“If inflationary pressures subsequently prove more severe than the
central part of our forecast suggests, then it will be a help to have
started to raise interest rates earlier. But if they prove less strong
then subsequent increases can be slower than would otherwise be the
case. Indeed, if the economy is extremely weak, interest rates can be
reduced again,” he added.
–London bureau: +4420 7862 7491; email: email@example.com