Bank of England announced tying its key lending rate to drop in the U.K.’s unemployment rate in its forward guidance.
Bank of England’s new Governor Mark Carney in his first quarterly-inflation-report conference, indicated the Monetary Policy Committee intends not to raise the bank rate from its current level of 0.5 percent at least until the unemployment rate hits the threshold of 7 percent.
The forward guidance marks one of the new Governor’s first departures from the reign of his predecessor Mervyn King. The guidance is similar to that issued by the Federal Reserve in the U.S.
The forward guidance also indicated that until the unemployment threshold is reached, the MPC intends not to reduce the stock of assets purchased financed by the issuance of central bank reserves.
Guidance to hold until knockouts are breached
Elaborating further, the forward guidance notes linking the bank rate and asset sales to the unemployment threshold would cease to hold if any of the ‘knockouts’ were breached. First, currently the MPC feels CPI inflation 18 to 24 months forward will be 0.5 percentage points or more above the 2 percent target. Secondly, the MPC considers the medium-term inflation expectations no longer remain sufficiently well anchored.
Effective monetary policy by the Bank of England
Bank of England undertook several easing measures to kick-start the economy during the financial crisis. The measures included cutting its benchmark interest rate to a historic low of 0.5 percent in 2009 besides introducing an asset-purchase program which currently stands at 375 billion pounds ($574 billion). The new Bank of England governor feels the new forward guidance should further help the loose monetary policy be more effective.
Recently, all nine policymakers at the Bank of England voted against restarting bond buying, which took markets off guard last month.
The forward guidance also notes that in the event that the unemployment threshold is reached or if either of the price stability knockouts or the financial stability knockout is breached, the action taken by the MPC would depend on its assessment at that time of setting the money policy. The forward guidance thus clarified that one should not presume that there would definitely be an immediate increase in Bank Rate or sale of assets.
Shares in London fell after the Bank of England announced its new forward guidance, with the FTSE 100 falling over 1 percent to 6,531.