Dec. 2 (Bloomberg) -- Bank of England Chief Economist Spencer Dale said the government’s budget squeeze won’t “derail” the economic recovery and the central bank remains as determined as ever to tackle inflation.
“The direct impact of this reduced spending” is “unlikely to derail the recovery,” Dale said in a speech released in London late yesterday. While it will “certainly dampen growth,” the “substantial stimulus from monetary policy and the lower level of sterling should ensure that the recovery continues.”
The Bank of England held its key interest rate at a record low of 0.5 percent in November, with officials split on policy as inflation remained above the government’s 3 percent limit. The Treasury’s fiscal watchdog said on Nov. 29 that the British economy faces a “sluggish” outlook.
“The current focus of monetary policy is on providing the stimulus necessary to support the recovery so the degree of spare capacity in our economy is gradually reduced,” Dale said. “That is critical if we are to hit the inflation target” of 2 percent “in the medium term.”
He said oil prices and a sales-tax increase added to cost pressures and his approach to policy is based on a judgment that these won’t feed through to medium-term inflation.
“The Monetary Policy Committee remains as hard-nosed as ever in its determination to hit the inflation target,” Dale said. “The onus is on us to explain why, in the face of persistently above-target inflation, we are not tightening.”
While U.K. policy maker Andrew Sentance has called on the central bank to “gradually” raise interest rates, his colleague Adam Posen has said more stimulus is needed to help offset the impact of the government’s budget squeeze.
Governor Mervyn King has supported the government’s fiscal plans in comments that Posen has criticized as overly political. He said on Nov. 25 he was “uncomfortable” with the bank’s support for Prime Minister David Cameron’s deficit-reduction plans. Former central bank official David Blanchflower yesterday called on King to quit after an additional controversy, when WikiLeaks published a cable by the U.S. ambassador citing the governor’s concerns that Cameron lacked experience.
Dale also said that while it is too early to say the U.K. is “out of the woods,” he takes “encouragement” from the composition of U.K. growth, citing improving domestic spending. He said the pound’s decline should support the recovery and that it has helped stem the decline in the U.K.’s share of global exports.
However, sales of services overseas have fallen, partly due to the financial crisis, and the prospects for net trade will depend on a revival in global demand, Dale said.
“Spending by households and businesses has begun to pickup,” Dale said. “Over the next few years the economy is likely to grow at rates around or a little above its historical average, supported by monetary policy” and the pound.
King said on Nov. 25 that policy makers view inflation risks as “broadly balanced” and are ready to act as needed. Consumer-price growth accelerated to 3.2 percent in October.
“This uncomfortable juxtaposition of high inflation and loose policy has led some people to put two and two together and make five,” Dale said. “The MPC has gone soft on inflation, they claim. It has taken its eye off the ball. I understand why some people think this. But it is simply not true.”
Nevertheless, he said there is a risk that the bank’s strategy could cause companies and households to “question the MPC’s competence” and push up wages. In that scenario, the bank “would be forced to tighten policy, potentially aggressively,” Dale said.
For now, “it seems clear to me that there is some degree of spare capacity and that this is likely to damp inflationary pressures,” Dale said. “We need to see a sustained period of robust growth for the economy to function normally again.”
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