New Bank of England governor Mark Carney has only been in the job for a month, but he is already making his intentions plain to shake up the Old Lady of Threadneedle Street. On Wednesday he unveiled a policy of "forward guidance", which boils down to keeping interest rates very low and quantitative easing going until unemployment is under 7%.
Carney was unequivocally saying that he expects interest rates to be held at current record low rates until 2016 at the earliest and wants us to act on that basis. Yet Carney's choice of 7% unemployment for rates to rise shows just how weak the bank believes the economy is. After all, the current rate is not too far above that, at 7.8%, said Capital Economics. Implying that it will take at least three years to close the gap signals that policymakers see a good deal of spare capacity and scope for productivity growth in the economy.
Notably, the announcement comes at a time when economic news has been good: manufacturing, services and consumer spending all proved stronger than expected, implying GDP growth is accelerating further from a good rate in the second quarter. Either the bank is uncertain that momentum will be maintained or it believes it's vital to reassure markets that rates won't rise too quickly and risk choking off the recovery.
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The fact that such second-guessing has already begun also indicates a flaw in the proposal. "This means that the markets will be poring over the monthly unemployment numbers, and will grapple with such thorny issues as whether a better economic outlook draws discouraged citizens into seeking jobs, and thus pushes the unemployment rate back up," noted Buttonwood on Economist.com.
"It also raises the regular prospect of markets selling off when unemployment falls; a development that will further widen the comprehension gap between ordinary workers and the financial sector." Given that, Carney's big idea may prove less helpful than he hopes.
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