The Bank of England is right to keep interest rates at a record low while the economy endures the government’s spending squeeze, International Monetary Fund Chief Economist Olivier Blanchard said.
“To the extent that there is strong fiscal consolidation, the monetary authorities should do whatever it takes to maintain demand,” he said on The Last Word today with Andrea Catherwood on Bloomberg Television, speaking from Washington. “In this case, keeping interest rates low is the right thing.”
The bank last week left the key interest rate at 0.5 percent to support the economy through the biggest fiscal squeeze since World War II, even after inflation accelerated to more than double its 2 percent target. Blanchard said that for now, Britons’ expectations for consumer prices don’t seem to have been dislodged.
“You have this issue that headline inflation has been consistently high for quite a while,” he said. “So far it doesn’t seem to have had a major impact on core inflation expectations, which seem to be well-anchored, so I think the U.K. is following the right monetary policy.”
The Washington-based IMF said in a report today the reputation of inflation-targeting central banks in developed countries may come under threat when they face a succession of price shocks. It pointed to the jump in U.K. inflation to 4.4 percent on rising oil and food prices, a weaker pound, and higher sales tax as a threat to the Bank of England’s credibility.
So far, the U.K. central bank may have weathered the price surge, since some measures of inflation expectations seem “little changed” from a year earlier, the report said. Ten-year breakeven rates, a market gauge of expectations for price growth, have risen to 3.31 percent from 3.13 percent a year ago.
“Central bankers will need to communicate very clearly how they intend to respond to one-time or relative price shocks,” the report said. “The objective should be to accommodate foreign price inflation as long as it does not pose significant threats to domestic price inflation.”