Wednesday, February 20, 2008

Bank of England Looks for Inflation Risk

Bank of England's MPC weighs on inflation risk in considering further interest rate cuts.

The Bank of England's monetary policy committee would be considering even deeper cuts in interest rates were it not for worrying signs that inflation is likely to spike soon and stay high this year, a key member of the committee said on Tuesday night.

In remarks about the economy that appeared even gloomier than those by Mervyn King, Bank governor, last week, Kate Barker warned that the benign economic conditions that have characterised the past decade are coming to an end. The risks, particularly the implications of weaker property prices for the banking sector, could easily justify further monetary stimulus, she said.

"My chief concern is the significant possibility of a large downside risk to growth, and therefore to inflation, as the impact of the credit tightening works through the economy," Ms Barker said in a speech to the North Staffordshire Chamber of Commerce and Industry in Stoke-onTrent. "I rate this a little higher than a large upside risk to inflation over the medium term from dislodging inflation expectations on the upside."

Banks' difficulties in accessing wholesale funds could prompt them to cut back on mortgage lending in 2008. "In this case, the mortgage market could become less competitive and more expensive, feeding back into a decline in the housing market, somewhat lower consumer spending, and also into lenders' balance sheets, reducing lending capacity further."

Ms Barker is seen as neither a dove nor a hawk on rate decisions and most often votes with the majority. However, in a tacit acknowledgement of just how rapidly new data are altering the overall picture of the economy, Ms Barker appeared to concede that even the latest figures may already be out of date.

She signalled that the MPC was prepared to take a pragmatic approach to rate-setting. "Judgments about the correct policy response may need to be unusually flexible with much more uncertainty than normal around the future path of policy rates," she said.

However, she reinforced the message from Mr King last week that there is a real and immediate concern about a spike in inflation which, although probably of external origin, may seep into the expectations of consumers and workers.

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