The U.K. economy probably has more spare capacity than the Bank of England’s main calculations show, policy maker David Miles said, highlighting a key area of divergence among officials.
Miles, speaking two days before minutes of the Monetary Policy Committee’s February meeting give more clarity on its thinking, said the amount of slack is “toward the upper end” of the 1 percent to 1.5 percent of gross domestic product estimated by the BOE in its Inflation Report on Feb. 12. “It’s possible that there is more than that,” he said.
BOE Governor Mark Carney last week put spare capacity at the center of interest-rate policy now that unemployment is close to breaching the 7 percent threshold for considering a rate increase, two years earlier than officials projected when forward guidance was introduced in August. Miles, an external member of the MPC and a former economist at Morgan Stanley, has been at the dovish end of the nine-member panel, unsuccessfully voting for extra quantitative easing for eight months until June 2013.
“There’s a range of views” on the size of the output gap, Miles said in an interview in London. “One shouldn’t get the impression that everyone on the committee is absolutely convinced it must be in that interval. That was just the central estimate, if you will, of the committee.”
The BOE refined guidance after the economy strengthened and unemployment fell faster than forecast toward the 7 percent threshold it said would prompt a discussion of interest-rate increases. Minutes of the February MPC meeting, when officials discussed the change, will be published tomorrow. They kept the interest rate at a record-low 0.5 percent this month.
“There is a material amount of slack,” Miles said. “We don’t see a case for tightening right now.”
The bank last week lowered its forecast for inflation while raising its projections for growth, and the changes in view on prices were informed by currency movements, he said. On a trade-weighted basis, the pound is at the highest in more than five years, and reached a four-year high of $1.6823 against the dollar yesterday. Sterling fell 0.1 percent against the dollar today, and traded at $1.6692 as of 8:46 a.m. in London.
Recent gains in the currency “are not trivial,” he said.
Miles said he’s “not so sure that we’ll get a strong bounceback in growth of productivity.” He said the improving economy hasn’t translated into better productivity.
“The business surveys have taken a turn towards strength in the last few months and the forward-looking indicators would suggest that investment in general across the economy is likely to pick up and maybe pick up quite strongly,” he said. “It hasn’t really happened yet and I think that is a reflection in many ways of a degree of slack existing within the economy, probably now falling, but nonetheless a degree of slack.”
Miles said inflation pressures are “subdued” and the outlook is for it to stay anchored to the bank’s 2 percent target. Consumer prices rose an annual 2 percent in January, economists said before data due today.
“Inflation is not just at the target level but is likely to stay around that level for some time,” he said. “If our best guess is that inflation will stay around the target level and there is slack, we would want to start using up that slack.”
Miles said commodity prices pose the biggest risk to U.K. inflation and “it’s not quite so clear” where domestic price pressures might come from as there’s little evidence that wage settlements will pick up sharply. Inflation expectations are also sufficiently well-anchored for the BOE to look through an unexpected spike in price gains.
“Inflation expectations both of households and implicit in financial market prices have remained reasonably close to levels consistent with our hitting the target,” he said. “We have managed to preserve a significant degree of credibility that we will on average bring inflation back to the target level.”
Investor expectations for a rate increase next year and for the benchmark to reach 2 percent by 2016 are “not unreasonable,” he said. His remark echoes comments by Chief Economist Spencer Dale last week, who said on such a rate path the economy “looks pretty good.” Both said no rate path is certain.
Speaking to Guy Johnson in a separate interview on Bloomberg Television, Miles elaborated on the market view.
“The market path of interest rates is in a position which on average generates outcomes with inflation pretty close to target and slack being used up,” he said. “There is a certain amount of information in that.”
Miles said he didn’t apply for the role of deputy governor for monetary policy, which Charlie Bean will retire from at the end of June. He said he wouldn’t expect the period where all nine members of the MPC were men “to last indefinitely.”
The Treasury will pick the best candidate for the job, he said, and “if that turns out to be a woman I would be very pleased.”