Last updated: January 24, 2014 8:21 am

BoE’s Mark Carney signals scrapping of forward guidance

Bank of England governor Mark Carney©Charlie Bibby

Bank of England governor Mark Carney

Mark Carney, Bank of England governor, has signalled that his policy of linking interest rates to the unemployment rate will be buried less than six months after its birth. The British economy was “in a different place” from last summer, he said.

Mr Carney flagged the U-turn at the World Economic Forum in Davos, letting the news emerge in a series of television interviews where he said that unemployment alone would no longer guide policy.

George Osborne, the chancellor, supported Mr Carney on Friday morning. Speaking at Davos, Mr Osborne acknowledged the fall in unemployment had changed the way the BoE would run monetary policy, but stressed the 7 per cent unemployment rate was a threshold and not a trigger.

“That we’re talking about exit is a mark of success. We’re not in the gloomy debate that we were having at Davos a year ago.”

He added that Mr Carney’s plan to change forward guidance showed monetary policy “works”. “In the UK the only reason we’re discussing what happens next is that unemployment is falling rapidly.” He also endorsed Mr Carney’s view that there was no immediate need for a rate rise.

Rejecting the claim that guidance has failed, Mr Osborne said “They set a threshold for unemployment and thanks to the success of policy – government policy and BoE policy – there is talk about what comes next.”

Although his big idea for monetary policy has bitten the dust, Mr Carney said the BoE had no plans to raise interest rates “immediately”. He will outline his views fully in a speech on Friday.

Speaking to the BBC’s Newsnight programme in response to the news this week that unemployment had fallen to 7.1 per cent, almost to the point where the BoE said it would consider a rate rise, Mr Carney indicated that the central bank has decided not to revise its 7 per cent unemployment threshold.

Asked whether the BoE was about to decrease the 7 per cent threshold, Mr Carney said he was against “unnecessarily focusing on one indicator” in future.

“There are a broad range of things we could do,” he said, making it clear that the rate-setting Monetary Policy Committee had not taken a final decision yet. “We’re trying to get across that it’s all about overall conditions in the labour market . . . We wouldn’t want to detract from that focus by unnecessarily focusing on one indicator,” he added.

Bank of England policy maker Martin Weale said interest rates could remain at their historic low for some time, despite their steeper-than-expected fall in unemployment, the East Anglian Daily Times reported on Friday.

Mr Weale dismissed suggestions that the MPC should now lower the 7 per cent threshold to, perhaps, 6.5 per cent, saying he did not believe this would achieve the core aim of forward guidance, that of creating greater certainty, as any new threshold could also quickly be overtaken by events.

Last August, Mr Weale was the only top policy maker at the BoE to vote against a plan to keep interest rates unchanged until unemployment fell to 7 per cent. Mr Weale said at the time he was concerned the plan could fuel inflation expectations.

The BoE followed the Federal Reserve in announcing forward guidance in August in an attempt to make monetary policy “more effective”. The UK central bank said it would not consider a rate rise at least until unemployment fell to 7 per cent, so long as inflation remained under control.

While it expected to keep interest rates at their historic low of 0.5 per cent for three years under this guidance, the unemployment rate probably fell to the 7 per cent threshold at the end of 2013.

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Mr Carney made it clear in the interview that there was “no immediate need to increase interest rates” but said the economy was now “in a different place” to the time he introduced guidance. Then, he said, the concern was that the UK economy was stagnating and might contract again: now the concern is that rapid growth might need action by the BoE to make it more sustainable.

Commenting on the huge errors in the central bank’s forecasts, Mr Carney said: “If our forecast is going to be wrong, it’s better to be wrong in that direction.”

He committed the BoE to undertaking a consideration of whether a rate rise was needed in the forecasts that it would publish in February.

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