Mark Carney unveiled lower U.K. growth and inflation forecasts as officials adjusted to account for “moribund” global expansion and stagnation in Europe.
“Developments in the world economy mean some of the downside risks to growth in earlier projections have crystallized,” the Bank of England governor told reporters in London today. “A specter is now haunting Europe –- the specter of economic stagnation.”
Carney spoke while presenting the BOE’s Inflation Report, where officials said annual increases in consumer prices could slow below 1 percent within months, and will return to the 2 percent target in three years. That effectively validates investors’ expectations that rate increases may not start for another year. Policy makers also cut growth forecast for the next two years.
“The central path is a little weaker than in August, reflecting the weaker global outlook and a softer profile for private-sector domestic demand,” the BOE said. “The main downside risk stems from weaker euro-area activity, which would weigh on U.K. exports.”
Investors are now fully pricing in a quarter-point rate increase in November, a month later than projected yesterday, Sonia forward contracts show. The yield on two-year gilts fell 4 basis points to 0.63 percent. The pound fell as much as 0.5 percent against the dollar and was trading at $1.5856 as of 11:53 a.m. in London.
Compliments to Draghi
A shift in market perception on the rate outlook follows downbeat assessments from BOE policy makers as well as the struggles in the euro area, where European Central Bank President Mario Draghi is pumping unprecedented stimulus into the economy to prevent deflation from taking hold.
“We’re seeing obviously lower demand for our exports, which has consequences, and we’re getting some imported disinflation from European exports,” Carney said. “We compliment the colleagues there for the range of measures that they are putting in place” to add stimulus, he said.
For the euro area, the BOE reduced its outlook for 2015 to 1.25 percent from 1.75 percent. The potential impact of the weak euro-zone economy can be seen in the BOE’s detailed projections. They show exports falling 1 percent this year, versus a previous expectation for a 2.25 percent increase. Next year, overseas sales will rise 4 percent, less than the 5.25 percent previously anticipated.
Britain’s inflation rate has been below the BOE target for nine months and policy makers now see it continuing to decline in the short term. There is a “significant probability” that the rate of consumer-price growth will fall temporarily below 1 percent within six months, they said. That would force Carney to write a letter of explanation to Chancellor of the Exchequer George Osborne.
Further ahead, the BOE forecast weaker price growth than in August, cutting its 2014 projection to 1.2 percent from 1.9 percent and its 2015 outlook to 1.4 percent from 1.7 percent. It kept its 2016 forecast at 1.8 percent.
“There are significant risks on either side of this inflation projection,” the BOE said, citing uncertainty surrounding geopolitical risks and the outlook for global commodity prices.
Officials predicted economic growth of 2.9 percent in 2015 and 2.6 percent in 2016, down from 3.1 percent and 2.8 percent in August. Carney cautioned that global economic headwinds shouldn’t be overstated.
“It is important to keep these developments in perspective when assessing the prospects for the U.K.,” he said. “Economic conditions here continue to normalize.”
The BOE kept its estimate for slack in the economy -- a key variable in its policy decisions -- at about 1 percent. It also said the Monetary Policy Committee has a “wide range” of views. Two of its nine members, Martin Weale and Ian McCafferty, have pushed for a quarter-point rate increase in recent months to guard against inflation pressures. Minutes of last week’s decision, when the rate was left unchanged at a record-low 0.5 percent, will be published Nov. 19.
While Weale and McCafferty have cited the importance of anticipating a pickup in pay growth, the BOE said that cost pressures in the labor market remain subdued. Data today showed that unemployment stayed at 6 percent in the third quarter, while the rate of annual wage growth was at 1 percent, the fastest pace since the first three months of the year.
“We are seeing the first tentative signs of the long-awaited pickup in wage growth,” Carney said today. “Real incomes will be further supported by lower energy, food and other import prices.”
The BOE expects annual real pay growth to accelerate to to about 2 percent by the end of next year.