The Bank of England governor has sent the pound into a nosedive after he ruled out an early rise in interest rates, saying UK growth was still too weak and pointing to recent turmoil in the global financial markets.
Speaking in London as the International Monetary Fund (IMF) downgraded its forecast for global growth this year, Mark Carney said the UK faced “a powerful set of forces” that prevented policymakers from raising rates. “The world is weaker and UK growth has slowed,” he added.
The recent plunge in oil prices and rapid slowdown in China are likely to keep inflation at or near zero. New UK inflation data on Tuesday showed prices increased by 0.2% over 2015, the smallest increase in annual inflation since the early 1960s.
These factors are likely to delay the first increase in rates since 2008 from their record low of 0.5% until at least the end of this year, or possibly 2017. Many City economists had previously expected a rise this summer or in the autumn.
Howard Archer, chief economist at IHS Global Insight, said borrowing costs were unlikely to rise until the end of this year at the earliest. “Given Mark Carney’s cautious tone and the increased possibility that consumer prices will stay lower for longer due to oil price weakness, limited earnings growth and growth headwinds, it is clear that the Bank of England could well delay acting until very late on in 2016, or even 2017,” he said.
Currency traders reacted to Carney’s downbeat assessment by selling the pound to $1.42, its weakest since March 2009, and almost 5% weaker than where it was trading just a month ago.
However, the FTSE 100 index closed up nearly 100 points, or 1.7%, as investors welcomed the prospect of cheap credit for a longer period than previously expected.
Carney did not indicate when the Bank would make its move. “The year has turned and in my view the decision proved straightforward. Now is not yet the time to raise interest rates,” he said at Queen Mary University of London.
There was no timetable and the Bank would “do the right thing at the right time on rates”, he said. “Monetary policy will continue to depend on economic prospects and not the calendar.”
In the summer of 2014, Carney said a rate rise would come earlier than City economists expected, and last summer he said a decision would “come into sharper relief” at the end of the year.
In each case, an event outside the UK, first the eurozone crisis and then China’s accelerated slowdown, has coupled with the government’s austerity measures to undermine his forecasts.
Carney emphasised that UK businesses were in rude health and primed to maintain their upbeat investment plans. He said the jobs market remained buoyant and the economy was expected to grow this year and next in line with the Bank’s most recent forecasts.
But there were many reasons for the UK to stick with low interest rates and not follow the lead set by the US Federal Reserve, which raised rates for the first time in nearly a decade in December.
He said Britain was a more open economy and more susceptible to the global slowdown in demand for exports and investment. “It has always been the case that, because the economy is subject to unforeseen disturbances, the precise path for [the] Bank rate cannot be preordained,” he said.
“Further downside risks to the global outlook remain, reflecting the ongoing challenges in China, fragilities in other major emerging market economies and the potential for financial contagion.”
The IMF cut its growth forecasts for the next two years and warned that recovery from the financial crisis could be derailed if key challenges were mishandled.
The Washington-based body said world output would be 0.2 points lower in 2016 and 2017, compared with forecasts made three months ago, and that the risks to its predictions were to the downside.
In an update to its World Economic Outlook, the IMF put growth at 3.4% this year and 3.6% in 2017. It said central banks should continue to boost growth and finance ministries should bolster investment spending where possible. It warned that a “tide of refugees” was putting the EU under strain and that action was needed to ensure that migrants could find jobs.
The Office for National Statistics blamed a 0.2% rise in prices during December on higher transport costs, particularly air fares, and to a lesser extent motor fuels. These were partly offset by downward pressure on prices for alcohol and tobacco along with food and non-alcoholic beverages. Monthly inflation, which has been between -0.1% and 0.1% for the past 11 months, finished the year at its lowest annual rate for 50 years.
Under Carney’s policy of forward guidance, falling unemployment was the key to rising inflation, as the increasing scramble for workers increased wages. In 2014, real wages began to rise for the first time since the financial crash and appeared to indicate an imminent rise in interest rates.
Since last summer, however, a sharp slump in manufacturing output and a depressed construction sector have pulled down wages and heightened fears of a longer period of stagnation. Average wage rises have fallen from 3.25% to about 2.5%.
Carney said he was concerned that low inflation was persuading employers to offer smaller wage rises, delaying the point at which the increasing costs of labour feed into the prices of goods on the high street. “The slowdown in the wage growth gives pause to the inference that the labour market is as tight as would be suggested by the drop in the unemployment rate,” he said.