Sept. 12 (Bloomberg) -- Bank of England Governor Mark Carney said his flagship communications policy is supporting the U.K. economic recovery, as he answered lawmakers who suggested that it may be confusing the public and doubted by investors.
Less than two months since Carney and colleagues signaled that they don’t intend to raise their key interest rate from 0.5 percent before late-2016, financial markets are betting they’ll have to move sooner as the economy shows signs of strengthening.
With the pound rising and short-sterling contracts falling in recent weeks, Carney today defended his view that unemployment will be slower to drop than investors think, and said the greater transparency promoted by the BOE is encouraging businesses and consumers to spend.
“By making policy more effective, we make it more stimulative and reinforce the recovery,” Carney told the Treasury Select Committee of the House of Commons in London.
The U.K. central bank says it won’t consider tightening policy before unemployment falls to 7 percent from 7.7 percent so long as price or financial stability aren’t jeopardized in the meantime.
While its economists estimate that threshold won’t be reached before late-2016, investors have embraced recent economic news as a sign it will be achieved sooner. This week alone, data showed unemployment unexpectedly falling in the three months through July and a house-price gauge rising to its highest in almost seven years.
“On average, the view of the market is the unemployment threshold will be achieved sooner,” Carney told lawmakers. “There is a difference in view, which is natural.”
While acknowledging the “prospects of sustainable growth have increased,” Carney said it’s the job of the central bank “to make sure it’s not another false dawn.”
Seeking to explain the difference in opinion between himself and investors, Carney said markets may feel unemployment could improve sooner than he does and that productivity won’t recover as quickly. He said there is a roughly 50 percent chance that the jobless rate will have fallen to 7 percent in three years.
“The market had a more positive view of the rate at which unemployment will come down and a more pessimistic view of productivity,” he said.
The governor also said that while there has been a “welcome” improvement in the economy, the recovery is still in its early stages.
Declining to say whether financial conditions are tightening or loosening, Carney said the greater insight alone into how the central bank views the economy is supporting growth. He responded to comments from Andrew Tyrie, the chairman of the committee, who said the BOE’s position is hard for households to understand.
“The announcement has reinforced the recovery,” Carney said, appearing at the hearing alongside fellow Monetary Policy Committee members Paul Fisher, David Miles and Ian McCafferty. “The message has been understood,” Carney said.
After the hearing, Tyrie repeated his view that guidance is a complicated topic to explain.
“Credibility in monetary policy is hard won and easily lost,” he said in a statement. “The new framework –- with its target, threshold and three ‘knockouts’ –- is more complex to explain than its predecessor.”
Short-sterling contracts have dropped since the BOE outlined its thinking, indicating investors are adding to bets on higher rates, while the pound has recorded the biggest gains of any major currency in the past six months.
The implied yield on the short sterling contract expiring in December 2014 is 0.94 percent, up from 0.68 percent on Aug. 1. The June 2015 yield has risen to 1.26 percent from 0.82 percent in that period.
Carney noted that about three-quarters of the interest rates that matter for businesses and consumers relate to the BOE’s benchmark, signaling rising long-term gilt yields are less of a concern to him. He also argued that forecasters have pushed back their expectations for when unemployment will fall to 7 percent.
On housing, Carney said while there had been an improvement in the housing market, activity levels, mortgage applications, and valuations are still “low.”
“We see further improvement in prices and activity, but that’s our expectation, and perhaps some acceleration, so we do need to be vigilant about this,” he said.
Regarding how the BOE would eventually withdraw stimulus, the governor said the first measure would be to raise interest rates before selling the gilts the bank has bought under its quantitative easing program.
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