UK bank interest rate policy change

The UK bank interest rate policy has been adjusted to include not only unemployment, but also a wider range of indicators, Mark Carney, Governor of the Bank of England (BoE), announced today.

Carney added that the BoE’s forward guidance policy has helped encourage growth and “is working.”

The UK’s economic recovery is not yet secure, Carney emphasized.

When interest rates do rise, he assured that this will occur gradually.

Market analysts took his comment as a signal that UK interest rates are likely to rise in 2014, which sent the pound higher today.

New B0E guidance sends pound sterling upward

When Carney introduced the BoE’s forward guidance policy in August 2013, he said that the central bank would not move from its benchmark interest rate of 0.5% until unemployment dipped below 7%.

According to Carney, the policy he announced in August has helped reduce uncertainty and boosted employment and spending by businesses.

UK interest rates have remained low even as the economy rebounded strongly, Carney said. There is less uncertainty about interest rates, “and most importantly, UK businesses have understood the message.”

UK bank interest rate policy needed revision

With unemployment falling much faster than he had expected last August, Carney says it is likely to hit the 7% floor by the spring of 2014.

The UK bank interest rate policy needed to be adjusted “as a result of exceptionally strong jobs growth,” he added.

Carney said:

“The message to businesses, to households is that the Bank rate is going to follow a path that is consistent with jobs, with incomes and with spending growing in a sustainable way. We are going to calibrate it carefully. We are not going to take risks with this recovery.”

BoE guidance described as ‘fuzzy’

Most of the media today described Carney’s new guidance as ‘fuzzy’.

The Financial Times quoted Peter Dixon, at Commerzbank, who said “More information does not necessarily mean additional clarity. The policy linked to unemployment was flawed, but easy to understand, and we suspect there will be a lot more volatility in markets in the coming weeks.”

There are five elements in this new phase of guidance, according to Carney:

  • To eliminate spare capacity in the economy over the next 36 months.
  • Today there is spare capacity.
  • When the economy is able to withstand higher interest rates, they will increase gradually.
  • Interest rates, when they do rise, will not increase by much.
  • Quantitative easing will not unwind until interest rates start rising.