BANK of England Governor Mark Carney has warned the UK must not make the same mistake as Japan in raising interest rates before recovery is secured, and declared the Monetary Policy Committee could provide yet further economic stimulus.
Mr Carney, in a notably dovish debut speech to a business audience in Nottingham yesterday, also highlighted the weakness of the recovery in the UK relative to that in other countries and the consequent cost in terms of unemployment.
He said he had "tremendous sympathy" for savers hit by record low base rates, but argued that current monetary policy would be to their long-term benefit.
Mr Carney said: "The prospect that interest rates might stay at their low level for longer will not be welcome for savers. I have tremendous sympathy for them. After all, they have done the right thing, set money aside, and now they are earning returns that are substantially below what they would have expected.
"But raising interest rates now is not the answer - instead what savers need is a stronger economy. That will mean higher asset prices, and will allow interest rates to return to normal levels in a sustainable way. A strong economy is in all of our interests, as it will deliver better job prospects for our friends, neighbours, children and grandchildren."
He added: "The last thing savers want is for the UK to follow Japan by raising interest rates before recovery is secured, only to find that we are condemned to decades more of low interest rates and lost opportunities."
Mr Carney highlighted his view that the forward guidance on UK base rates implemented by the Bank's Monetary Policy Committee this month would boost demand in the economy and thus aid recovery.
The MPC said it did not intend to raise base rates from 0.5%, at which they have stood since March 2009, at least until the International Labour Organisation measure of unemployment had fallen to a "threshold" of 7%. It projects this will not happen until 2016.
This guidance would cease to hold if, in the MPC's view, it were more likely than not that annual consumer prices index inflation 18 to 24 months ahead would be 0.5 percentage points or more above the 2% target.
It would also no longer apply if medium-term inflation expectations no longer remained sufficiently well-anchored.
Mr Carney said: "We are giving confidence that interest rates won't go up until jobs, incomes and spending are recovering at a sustainable pace. In particular, we will have to see the rate of unemployment, currently 7.8%, fall at least to a threshold of 7% before even beginning to consider whether to raise Bank Rate."
He emphasised that this did not mean base rates would automatically rise when unemployment fell to 7%. And he highlighted the MPC's belief that it "could take some time" for unemployment to fall to this level, while noting more than half of the rise in employment since the 2008/09 recession had been in part-time jobs.
Highlighting the UK's poor economic performance in recent years, Mr Carney said: "The UK has endured its weakest recovery on record. Comparisons with other countries throw that fact into sharper relief. Over the past five years, Germany has grown by 2%, the US by 5%, Australia by 13% and China by more than 50%.
"Meanwhile the UK economy still produces 3% less than it did five years ago."
He added: "The real cost of this poor performance is that around a million more people are une mployed than before the recession. Capacity has lain idle in firms and opportunities have gone wanting for lack of finance and confidence. It will take a period of robust growth to begin to reduce meaningfully this spare capacity in the labour market and in companies."
Mr Carney said that developments at home and abroad suggested that conditions were in place for growth to be sustained into the medium term, although at a pace which was likely to be "measured" rather than "rapid".
Flagging potential for further stimulus, he added: "The upward move in market expectations of where Bank Rate will head in future could, at the margin, feed into the effective financial conditions facing the real economy.
"The MPC will be watching those conditions closely. If they tighten, and the recovery seems to be falling short of the strong growth we need, we will consider carefully whether, and how best, to stimulate the recovery further."
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