Bank of England stresses no rush to raise rates as recovery builds

Reuters
Primulas bloom outside the Bank of England in the City of London
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Primulas bloom outside the Bank of England in the City of London March 21, 2014. REUTERS/Luke MacGregor

By David Milliken and Ana Nicolaci da Costa

LONDON (Reuters) - The Bank of England pushed back against expectations it might raise interest rates in less than a year's time, saying on Wednesday that Britain's economic recovery is still in its early stages.

The central bank acknowledged a strong bounce-back in the labour market since last year, lowering its forecast for unemployment for the next couple of years.

But it left largely unchanged its assumptions on the timing of interest rate rises and its growth and inflation forecasts.

The pound fell to a one-month low against the dollar after the Bank's report as the markets had been betting that the recovery in the economy meant a rate hike possibly as soon as this year. British government bond prices rose. [GBP/]

"As time has moved on and the recovery has been sustained, the economy has edged closer to the point at which Bank Rate will need gradually to rise," Carney said at a news conference.

But he stressed the recovery from the financial crisis was still in its early days, comparing its progress so far to the equivalent of a country making it through the qualifying rounds for the football World Cup, which starts in Brazil next month.

"That is an achievement, but not the ultimate goal. The real tournament is just beginning and its prize is a strong, sustained and balanced expansion."

Britain's economy is due to grow about 3 percent this year, probably making it the star performer among big, industrialised nations. Financial markets had mostly priced in a rate move for around nine months' time before Wednesday's report by the Bank.

Short-sterling interest rate futures rose sharply across the 2015 and 2016 strips, indicating that markets were pushing back their expectations for the first rate hike. In recent weeks markets had priced in a rate rise for around nine months' time due to strong economic data.

"The market has pared back any fears that the Bank would be raising interest rates before year-end, and has even started to doubt whether it'll move as early as Q1 2015," said Nick Stamenkovic, strategist at RIA Capital.

INCREASING RISKS?

Some economists said the Bank's Monetary Policy Committee risked appearing too relaxed.

"It's hard to get away from the impression that the MPC is increasingly taking risks on the economy that probably aren't worth taking," said David Tinsley, economist at BNP Paribas.

"A move to a stance that at least would be more clear about countenancing a tightening in policy would likely not dampen the growth outlook too much," he said in an email to clients.

The Bank stresses that Britain took far longer to recover from the crisis than countries such as Germany or France and justifies its stance on rates by saying there is still a lot of room for the economy to grow without inflation picking up strongly.

The Bank said on Wednesday that the margin of this spare capacity had narrowed a little but not enough to justify an interest rate hike.

As if to underscore its point, data on Wednesday showed pay growth rising by only a fraction above inflation, even as the unemployment rate fell to 6.8 percent in the three months to March, its lowest level in more than five years.

The Bank said that in three years' time unemployment could be as low as 5.25-5.75 percent without creating price pressures.

The Bank reiterated that when the time came, borrowing costs would rise "only gradually and to a level materially below" their pre-crisis average.

The Bank forecast that inflation in two years' time would still be just below its 2 percent target, assuming interest rates rise in the second quarter of next year - around the time of a national election.

The Bank has also come under pressure to raise borrowing costs after house prices jumped by about 10 percent over the past 12 months, raising fears of a new property bubble.

But Carney again said the first line of defence against risks from the housing market would be to restrain mortgage lending rather than to raise rates, saying he had a lot of confidence in measures such as changing capital requirements for bank or tightening lending requirements.

The Bank's Financial Policy Committee is expected to take such measures when it meets next month.

(Additional reporting by Brenda Goh, Karolin Schapps, Sarah Young and Andy Bruce; editing by William Schomberg and Hugh Lawson)

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