bl<>BOE May Keep Up Stimulus as Public Spending Cuts Loom (Update1)
By Jennifer Ryan
June 10 (Bloomberg) -- The Bank of England will probably keep its emergency stimulus in place today to nurture economic growth as Prime Minister David Cameron prepares the deepest cuts in public spending since at least the early 1980s.
Policy makers, led by Governor Mervyn King, will probably maintain the bank’s bond holdings at 200 billion pounds ($292 billion) and the benchmark interest rate at a record low of 0.5 percent, according to all economists in two Bloomberg News surveys. The bank will announce its decision at noon in London.
King is seeking to shield the economy from the sovereign debt crisis sweeping the euro region as Cameron’s government prepares an emergency budget on June 22 to tackle what Fitch Ratings calls a “formidable” debt burden. Bank of England officials have said inflation, which currently exceeds the government’s 3 percent upper limit, will slow and allow them to maintain stimulus in the economy.
“There’s no great incentive for the bank to tighten now,” David Tinsley, an economist at National Australia Bank and a former Bank of England official, said in a telephone interview yesterday. “In a good few months if inflation is still high that situation may change.”
The pound rose 0.4 percent to $1.4590 at 8:46 a.m. in London. The yield on the 10-year gilt fell 3 basis points to 3.497 percent.
The European Central Bank will probably keep its key rate at a record low of 1 percent today, according to all but one of 59 economists in a Bloomberg News survey. The bank will announce the decision at 1:45 p.m. local time in Frankfurt.
Budget Deficit
King said on May 12 that Greece’s debt crisis shows what can happen when budgets run out of control and cause market borrowing costs to surge. He endorsed Cameron’s plans to cut the budget deficit, saying the coalition formed the previous day between the Conservatives and Liberal Democrats was created on the basis of a “very strong and powerful” agreement.
“The market wants to see a plan now, and if they fail to deliver that, you’ll get an interest-rate shock in the economy,” Brian Coulton, head of European sovereign ratings at Fitch, said in an interview yesterday. “If there’s a credible fiscal consolidation plan, it takes the pressure off the Bank of England to tighten monetary policy.”
The Organization for Economic Cooperation and Development said on May 26 that the bank should consider raising interest rates before the end of the year to keep inflation in check.
Inflation Acceleration
Inflation reached 3.7 percent in April, the fastest pace since 2008, stoked by higher energy costs and the weakness of the pound, which has fallen by about a quarter on a trade- weighted basis since the start of 2007. The deviation of more than a percentage point from the bank’s 2 percent target forced a public explanation from King, who insisted that the jump in inflation is “temporary.”
“Inflation is well above the target,” Philip Shaw, chief economist at Investec Securities in London, said in a telephone interview yesterday. “The Monetary Policy Committee must be concerned that it could lose its inflation-fighting credibility if it leaves rates at these levels for too long.”
The risk for the Bank of England is that the size of budget cuts needed could derail the economic recovery and plunge the nation back into a slump after it emerged from its worst recession on record last year. GDP rose 0.3 percent in the first quarter, slower than the 0.4 percent pace recorded in the prior three months.
Central banks elsewhere are considering the need for higher interest rates. Federal Reserve Chairman Ben S. Bernanke said this week said U.S. rates may rise from a record low before the economy returns to “full employment.” The Bank of Canada increased its benchmark rate by a quarter point to 0.5 percent on June 1.
Bond Program
The U.K. central bank has kept its rate unchanged since March 2009 and bought government bonds every month to aid economic growth until it paused its purchase program in February this year. Bank of England officials caution that slack left over from the recession means it is too early to consider tightening policy.
“While the exact margin of spare capacity in the economy must be open to debate, at this early stage of the recovery it is more likely than not that this will bear down on inflation for some time,” Deputy Governor Charles Bean wrote in an article in The Daily Telegraph newspaper June 4.
All 61 economists in a Bloomberg News survey predict no change in the benchmark interest rate today. All 35 economists in another poll forecast policy makers to maintain their bond- plan target.
“We see the first rate hike in the fourth quarter, that will be the first step in tightening policy, and then reductions in quantitative easing will come in due course,” Investec’s Shaw said.
To contact the reporter on this story: Jennifer Ryan in London at jryan13@bloomberg.net
Last Updated: June 10, 2010 03:47 EDT
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