Neil Williams: Carney right to be cautious

Governor Mark Carney is right to be cautious about the ‘sugar-rush’ recovery so far, and to keep his stimulus options, such as quantitative easing (QE), on the table.

At first glance, though, marrying ‘forward guidance’ on rates with a 2 per cent CPI inflation target deferred yet again, to the end of 2015, will worry some people that he is further subordinating inflation control in favour of growth considerations.

This experiment will be interesting, and it remains to be seen whether forward guidance ends up being more cosmetic than real, with little added impetus to growth.

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First, with world recovery still groggy, most consumers and firms will doubtless already know that the Bank rate is staying low for longer. And the ‘bells and whistles’ attached to guidance – the unemployment rate and so-called “knockouts” that could change guidance – need to be easily communicated to be tested.

Second, the MPC’s choice of unemployment as the policy yardstick seems as much of a ‘puzzle’ as the puzzle it has posed them trying to explain it. In spite of the crisis, employment levels have held up surprisingly well, offering the UK a silver lining to the dark clouds from the eurozone.

Then there are the knockout clauses, which look vague and will need to be treated with MPC judgement. An example is the CPI knockout which, if triggered – say, by even more administered price hikes in utilities, travel or tuition fees for example – rather than demand, will presumably again be ignored.

In which case, doesn’t this get us back to the ‘flexible inflation targeting’ the MPC has been doing officially since chancellor George Osborne’s ‘new’ remit, and de facto since the CPI started misbehaving consistently over five years ago?

And, worst of all, guidance could even backfire if the certainty that rates in three years’ time are likely to be as low as they are today simply defers purchases. This gets us into the realms of ‘a Japan’.

More likely, after the sugar rush of this summer’s housing, sport and royal-baby-associated growth spurt, and the prospect that CPI inflation could temporarily shave its 2 per cent target next spring, Mr Carney could pick up the QE baton later in the year.

Given these issues, there have likely been varying degrees of keenness about guidance within the MPC, and the minutes of their August meeting – released on Wednesday – will make interesting reading. I suspect the desire of the pro-QE camp has not diminished, and they can now hook their call more closely on their outlook for unemployment and slack in the economy.

Monthly MPC voting will remain on the Bank rate and QE, though any perceived changes in guidance conditions can now be used by members to justify their change of vote.

Mr Carney’s guidance at the Bank of Canada was turned off within the year as the economy revived. But that said more about Canada’s relative immunity from crisis than the guidance itself.