Base rate won't be 'normal' for long time, warns King

28 July 2010 | By Natalie Thomas

In a speech to the Treasury Committee today he says in the months ahead it may be that the Monetary Policy Committee judges that the inflation outlook warrants pushing down even harder or that it should ease back somewhat.

King says: “The debate is about the appropriate degree of stimulus, not about applying the brakes.

“Of course, there will come a point when we will certainly need to ease off the accelerator and return Bank Rate to more normal levels. I look forward to that time because it will probably be a signal that there is a smoother drive ahead, with the economic outlook improving in a durable way. But I fear there is some considerable distance to travel before we can begin to use the word “normal.”

He says the gradual improvement in credit conditions that was evident earlier in the year seems to have come to a halt in recent months and financial markets more generally have been volatile.

He says there are continuing concerns about the ability of some countries to achieve necessary fiscal consolidation and these are affecting confidence in the ability of banks to repair their balance sheets.

He adds: “More fundamentally, the key underlying causes of the crisis – in terms of the imbalances in global demand – have still not been tackled. Those imbalances are likely to be larger this year than last, and will probably still be around three-quarters of their level at the peak immediately prior to the crisis. Until these underlying problems are resolved, uncertaintyabout the outlook for the world economy will remain.”

King says the economy should not read too much into the 1.1% estimated GDP growth in the second quarter.

He says: “We continue to face the challenge of rebalancing our economy away from consumption towards net exports, and raising our national savings rate. During the rebalancing, there is a risk that the level of money spending in the UK will remain weak, with the economy operating below capacity.

“That would push down on inflation – potentially to a rate that is significantly below the 2% target.”

But King says it is likely that inflation will remain above target for much of next year. If this high inflation were to become engrained in inflation expectations, it would be difficult to bring inflation back down again.