Mark Carney, the Governor of the Bank of England, has inaugurated a policymaking revolution by announcing that the central bank will aim to bring down Britain’s high levels of joblessness – the first time in its history it will explicitly target a fall in unemployment.
The new Governor announced that the Bank will hold interest rates at their present record low level of 0.5 per cent until the national unemployment rate falls to at least 7 per cent. Under its latest economic forecasts the Bank does not expect this target to be hit until the second half of 2016, implying that the cost of borrowing throughout the economy will remain low for three more years.
The new regime, described by the Bank as “forward guidance”, is designed to give households and businesses confidence that the Bank will not raise rates for an extended period of time. Mr Carney hopes this confidence will support economic growth and spur the creation of new jobs.
Under the reign of the previous Governor, Lord King, the Bank fiercely resisted offering any guidance on the future path of policy rates, fearing that any such pledges would prove counter-productive.
The shift in emphasis was welcomed by the Chancellor, George Osborne, who had asked the Bank to examine the merits of forward guidance in his March Budget.
“I think it means, for hard-working families thinking of taking out a mortgage, or a business, thinking about expanding and taking out a loan to expand – they’re going to have greater certainty that interest rates are going to stay low for longer”, said Mr Osborne.
However, the Bank added there will be “knockout” scenarios in which the central commitment on low interest rates might be ignored. These will become active if the Bank forecasts inflation will breach 2.5 per cent over a two-year horizon, or if there is a sharp rise in the public’s expectations of prices rises.
Another knockout scenario would be if low interest rates are judged to be imperilling the stability of the financial system. The Bank added, though, that even if these scenarios did occur it was no guarantee that interest rates would rise.
It also said that reaching the 7 per cent unemployment rate would not necessarily trigger a monetary tightening either. Mr Carney described the 7 per cent target as a “way-station” on the path to a full recovery.
Despite recent signs that a recovery is gathering pace after three years of stagnation, Mr Carney insisted the economy had not yet attained what he termed “escape velocity”.
“There should be little satisfaction” he told a press conference at the Bank. “Much is at stake as we seek to secure this recovery and return inflation to target”. Mr Carney added that, while fewer Britons have lost their jobs since the 2008-09 recession than many feared five years ago, unemployment was still unacceptably high.
“There are one million more people unemployed today than before the financial crisis; and many who have jobs would like to work more than they currently can,” he pointed out.
In the three months to May there were 2.51 million people unemployed according to the Office for National Statistics, giving an official jobless rate of 7.8 per cent. The Bank estimates that, if the UK workforce continues to grow at a normal pace, a fall in the unemployment rate to 7 per cent will require the creation of more than three-quarters of a million new jobs over the next three years.
However, both the Office for Budget Responsibility and the International Monetary Fund are more pessimistic about the employment outlook.
Neither body currently expects the 7 per cent threshold to be attained until 2017, which could imply a further year of low rates.
Notwithstanding its emphasis on the historic weakness of the economy in recent years, the Bank actually revised up its estimate for GDP growth. It now expects the economy to expand by 1.5 per cent this year (up from the 1.2 per cent forecast made in May). It sees the economy accelerating to 2.7 per cent in 2014 before falling back slightly to 2.5 per cent in 2015.
Labour and the trade unions welcomed the shift in emphasis from Mr Carney and the Bank. “By recognising the importance of policy action to support jobs and growth, at last we are seeing the Governor show the leadership we have failed to see over the last three years and are still not seeing from the Chancellor” said the shadow Chancellor Ed Balls.
Frances O’Grady, general secretary of the TUC, said that the unions had long campaigned for the Bank to take account of unemployment in setting policy.
But others warned that the new policy represented a potentially perilous watering down of the Bank’s long-standing inflation target. “To try to use monetary policy to reduce unemployment when inflation is already above target is playing with fire and could lead us down the road that we followed in the 1970s,” said Philip Booth of the Institute of Economic Affairs think-tank.
The annual consumer prices index inflation rate rose from 2.7 per cent in May to 2.8 per cent in June and is expected to drift higher by the Bank later this year. Mr Carney, however, insisted that the Bank’s commitment to price stability remained “unwavering”.
Lobby groups campaigning on behalf of savers, who have been complaining about the low level of interest paid on bank deposits and low annuity rates, also objected to the prospect of rates being held down for a further three years. “Four and a half years of 0.5 per cent base rate have failed to invigorate the economy yet have stolen over £220bn from the nation’s savers,” said Jason Riddle of Save our Savers.
Profile: Mark Carney - meet the ‘George Clooney of central banking’
From his first day in the job little more than a month ago, new Bank of England Governor Mark Carney has barely put a foot wrong on the public relations front.
The Canadian - “quite simply the best, most experienced and most qualified person in the world” to take the reins in Threadneedle Street according to George Osborne - was instantly keen to mark a break from the past.
A notoriously aggressive British press could have been raking over his £874,000 pay package, including a £250,000 housing allowance; or his past at Goldman Sachs, the investment bank famously labelled a “vampire squid” by Rolling Stone magazine. Instead, they were purring over his decision to take the Tube to work, spurning the chauffeur-driven car of his predecessor Lord Mervyn King.
The PR blitz has continued since them as the smooth 48-year-old - dubbed the ‘George Clooney of central banking’ - shows a press savvy on the ‘softer’ issues so often lacking in King. His first utterance three days in was on the row which blew up earlier this year as feminist campaigners were outraged at the replacement of social reformer Elizabeth Fry on the five pound note with wartime leader Winston Churchill.
In an exchange of letters with MP Mary Macleod, who claimed the move “leaves a chasm where there was once inspiration”, the Canadian stressed he was keen to “celebrate the diversity of great British historical figures”. The Bank’s chief cashier Chris Salmon also met with campaigner Caroline Criado-Perez - who was threatening the Bank with a lawsuit - and before the month was out Dr Carney was confirming novelist Jane Austen would be the new face of the ten pound note, scoring an easy PR win.
His lower profile but no less significant move has been the appointment of Bank outsider Sir Jon Cunliffe as deputy Governor to replace Paul Tucker from November. The civil servant’s diplomatic experience as a veteran “sherpa” will be key as talks over financial regulation and a potential eurozone banking union take shape in the years ahead.
The Canadian, rumoured to still harbour some political ambitions at home, is in the hot seat for five years after shifting his wife and four children from Ottawa to London’s leafy West Hampstead. Since he signed up, the sun has shined, the economic news has improved and a Brit has even won Wimbledon. It’s been some honeymoon: how long will it continue?
Forward guidance: Carney’s three ‘knockouts’
If annual Consumer Price Index (CPI) inflation is forecast to be more than 2.5 per cent by the Bank of England around 18 to 24 months ahead, the forward guidance on low interest rates could (but might not be) breached. Critics point out that this will prove an ineffective check because the Bank has persistently forecast inflation to hit its 2 per cent target over the past, even when it has frequently come in much higher.
High Inflation expectations
Again the Bank could (but need not) deviate from its forward guidance on low rates if the public’s medium-term inflation expectations become “unanchored”, threatening a damaging inflationary spiral. The Bank will use a range of survey data on expectations on price increases to determine whether the knockout comes into play. However, it will be at the discretion of the Bank’s Monetary Policy Committee to decide what “unanchored” means.
The Bank could put up interest rates if its own regulatory Financial Policy Committee (FPC) judges that loose monetary policy is encouraging dangerous levels of risk taking among banks and other market actors. But policy will remain co-ordinated as the Governor Mark Carney sits as chair of both the FPC and the rate-setting Monetary Policy Committee.