BoE policymakers soothe concerns of early rate rises

Bank of England policymakers calmed market expectations of early interest rate rises, saying on Thursday that they wanted to avoid a marked economic slowdown which might pull the inflation rate below target.

They told a parliamentary committee that while inflation was expected to rise above 4% this year, this was a one-off shock which need not be sustained and the medium-term price outlook was encouraging. 

"The economic slowdown will need to be sufficient to ensure that inflation does not persist above the target. But at the same time, we need to avoid a slowdown that is so pronounced that it would pull inflation down, not just to the target, but below," BoE Governor Mervyn King said. 

Five members of the BoE's Monetary Policy Committee (MPC) were giving testimony to parliament's Treasury Committee on the central bank's May inflation report. Sterling pared gains and interest rate futures rose during the testimony as analysts interpreted the comments as suggesting the central bank may not raise rates as early as markets expect. 

King said the MPC had been puzzled by the market reaction to data over the past few months, first pricing in several cuts and then abruptly switching tack to predicting several rises."That seemed to me a rather sharp reaction to data. I think ours has been a more balanced response," he said. "I am confident that we will bring inflation back to the target, but I cannot tell you what level of interest rates we will need to set to achieve that.

"After the rise in annual inflation to 3.3% in May -- well above the central bank's 2% target -- financial markets had been pricing in a good chance of a rate increase in August and possibly more before the end of 2008.

"The MPC is not conveying that it is in a hurry to tighten policy," said Philip Shaw, chief economist at Investec. "The testimony sounds relatively neutral but given what's priced into the yield curve in terms of higher interest rates markets are starting to have their doubts. 

"At the same time as rising inflation, British economic growth slowed to 0.4% in the first quarter from three months earlier, its weakest rate for three years.Monetary policy hawk Timothy Besley said convincing wage and price setters that increases in inflation were expected to be temporary may mitigate the need for "more activist monetary policy in the future".

"I am open-minded about the path of Bank Rate that will be needed to maintain the inflation target in the medium term," he said in a statement issued at the start of the committee hearing.

Financial Mirror, 26/06/2008

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