Broadbent Says BOE Housing Move Insured Against ‘Severe Upside’Emma Charlton and Scott Hamilton
Bank of England Deputy Governor Ben Broadbent comments on policy issues including U.K. housing, wages, the pound, and interest rates. These are selected remarks from an interview with Bloomberg News yesterday in London.
On the Financial Policy Committee’s recent housing-market measures:
“They were designed to deal with something that we didn’t expect to happen. There was a chance of it happening. It was insurance against a severe upside. We wanted to prevent something that might happen, so you wouldn’t necessarily expect to see an effect.
‘‘It’s more comforting to have something in place which reduces that.”
On whether FPC rhetoric is having an impact on housing:
‘‘What’s clear is that initially certainly in quantities, turnover and mortgage approvals, and I say this despite the uptick we’ve had very recently, things are weaker than we might have expected six months ago. Recently I think we’ve seen some indications of the same in prices as well.
‘‘Whatever the reason it’s clear that we’ve already had something of a dip even relative to the central expectations that we had six months ago at the beginning of the year.
‘‘That’s what’s in the near-term indicators at least.
‘‘You can see certainly in quantity and some of the near-term price indicators some of the edge is coming off.’’
On whether the slowing housing market will affect BOE growth forecasts:
‘‘You might expect some softening for that reason at least later this year into next year. For the time being the very near-term indicators of output growth remain quite strong.
‘‘The third quarter may be a little stronger. On the other hand, partly because of what’s happening in the housing market, partly because the global economy is arguably a little softer than one might have hoped, to expect some slowdown over the next year, toward the end of the year into next year, isn’t unreasonable.
‘‘It’s quite possible that the strength of employment may be in part because output growth has been a little stronger and one should recognize these revisions take place over time.’’
‘‘Some sort of increase is likely.
‘‘In certain areas of the labor market, particularly the lower-skilled end, there are things that are increasing the supply of labor. I’m thinking of changes to welfare rules in particular that mean that people might be less inclined at the margin to want to stay in unemployment, or even to stay outside the labor force. It may encourage them to come back in.
‘‘That would have the effect both of changing slightly the skill mix of the jobs market, skewing it towards lower-skilled jobs, and also even for a given job reducing the rate of pay.
‘‘So it’s these two possibilities we’re weighing up and it seems reasonable to give some weight to the possibility that it’s the labor-supply effect, in which case unemployment is not an unadulterated sufficient statistic for the amount of slack in the economy.
‘‘So it’s tricky that we’re having to weigh up these two interpretations.
‘‘My own feeling is that it’s difficult what that means for where we are right now. What’s clear is that the amount of slack is being eaten up much more quickly than we thought it would be, but it seems likely looking at the wages to an extent that’s difficult to judge that we probably had more of it than we thought a year ago.
‘‘Certainly wages should make one think a bit about whether our assessment of what slack there was in the economy six months to a year ago was right.’’
On slack in the economy:
‘‘It’s quite possible that we started off from a lower level but are eating it up more quickly and ended up more or less where we thought we were, so I’m not sure the policy implications are immediate unless you believe this is likely to carry on.
‘‘It’s been in the forecasts for while that we expect via a combination of slightly slower demand growth and an improvement in productivity growth that the pace at one eats up slack will slow. It’s a difficult judgment.
‘‘What is true is that we have been, leaving aside the question of wages, just looking at unemployment, that we haven’t had that slowdown in the pace at which slack is being eaten up. Unemployment has fallen far faster than we expect, the employment growth has been much stronger, the productivity growth on the face of it has been much weaker than we expected and everyone else expected. I think potentially part of the answer to that, a little bit of it, my suspicion is that growth has been a little stronger, but even then what we are projecting is different from the pace of which slack has been eaten up over the last year or so. On the other hand it would be far more normal relative to previous cycles.
‘‘I’m not going to give you a single number for myself, it’s a tight enough range anyway. We shall recognize that the actual uncertainty around any of those single numbers is pretty high and in a sense that was one of the reasons for giving the range. Most of our middles are somewhere in that range. I’m reluctant to give you a precise number because it would be misleading for something that is so uncertain. It’s clear it’s fallen faster, it’s probably true it’s fallen faster from a level which in hindsight, from the benefit of the wage numbers, was higher than we thought. It seems likely there’s some slack, we’ve long had estimates of the long-term structural rate of unemployment around 5 percent, if some of the effects of the welfare changes are enduring, that might even have gone down a bit, so I think there’s some, but I’m reluctant to give you a precise number.
‘‘The wage data might make you reassess what your estimate of slack is. Slack is not an observable thing, wages may enter the way you determine your estimate of slack and as long as wages and employment are performing consistently, either would do. When they are looking a bit different, you probably need to look at both. What the wage data are telling you, potentially, is that your earlier estimate of slack may have been too high. It’s not either, or. The wage data informs your estimate of the amount of spare capacity in the labor market.
‘‘You might still take a view that slack is the stuff that matters for future inflation, but your view of where that is may be affected by out turns for other things, especially if wage data is one of them. The change is still quite steep, what I am suggesting to you is that, other things equal, what you’d expect this to do, you might expect it to lower a bit the profile, but that profile will still be upward sloping. It doesn’t say that suddenly I’ve got more slack that I had in the last quarter, it just says that maybe a year ago, the whole level of the path may be lower than I thought it was. It’s still the case that it’s narrowing, it just may be a narrowing from a wider amount to begin with.”
On interest rates:
“I don’t have to commit to the entire path for interest rates. What we’ve said, and this brings to the question of guidance, what we’ve said with guidance in February and since, is not that there’s a level of guarantee over the level of interest rates in the future, and certainly not that there’s any particular guarantee as to when they’ll happen to move from half to three quarters, which is in any event I think not that important a question.
‘‘The outside world is utterly fixated on this first date. What’s more relevant for business, households, for the real economy, in the shape of what the average rates over the next two, three, four, five years. We can’t say with certainty what those will be.
‘‘The real message we’re trying to get across is that for other reasons to do with what’s going on in the global economy, investment, credit and risk premia, the level of interest rates that’s likely to be necessary to meet our objectives and the gradient of our path to get there, are likely to be lower than the previous expansions. That’s an important message to get across, and it’s also sufficient to say that. It’s not a statement about the precise numerical point at which interest rates happen first to go up, or precisely where they end up, but I don’t think that’s the important message anyway.
‘‘If the path of productivity turns out to be very different, and in particular different for the path of demand, then interest rates when we get there could move around in an unpredictable fashion.
‘‘It’s very likely to be limited and gradual, but I don’t want you to walk away from this saying that it might not be limited and gradual as if to suggest that somehow I’m saying it won’t be. What we’ve said is quite powerful and clear that it’s likely to be that. Sometimes there’s a temptation to portray things as all or nothing, either you can get a complete commitment about the number or you can say nothing at all, and I just don’t think that’s true. I think it’s reasonable and possible to say about the likely path, and these differences are material, just look at the forecasts you end up with official interest rates and the market curve on the order of 3 or something, below that and those are sufficient to give us reasonable outcomes for the economy. That’s a long way from the average pre-crisis interest rate, certainly a long way from what was thought to be the neutral rate in the 90s. But that’s not the same thing as saying it will be this. And nor, when I say I can’t tell you it will be this, does it devalue the message on guidance. It can never be a completely hard and fast.”
On whether limited and gradual could mean raising rates earlier:
“There’s an argument for that, possibly, amongst all the other arguments, to a degree, yes, to a degree.
‘‘I don’t want you to go away thinking this is the sole determinant of what would make me vote for interest rates at any particular date, because there’s a multitude of things that would affect that. But other things equal, yeah, that’s one of the arguments.
‘‘Well, the risk of all of these decisions: Inflation ends up above target, that’s the basic decision. Our objectives behind this have not changed. It’s still qualitatively the same discussion, given the outlook now, what is the right level of interest rates to secure our objectives, and that’s the main risk, you leave it too late and inflation ends up higher than you want it to be.
‘‘You know my vote, if it was an enormous concern I wouldn’t have voted what I have. It’s one of the considerations. We know both what’s in the curve and what’s in our forecast, and from what we’ve said that at some point it will go up. There not going to go down given where were starting from. I can’t give you a single argument that will clinch that decision whether for the committee collectively or me individually. They will at some point go up, my own view is that will be a good thing, or a sign of a good thing, it will be happening because it will mean that the economy’s getting onto secure footing and growing and recovering. If you’re leaving what’s been in some ways an emergency setting of interest rates then that tells you there’s less of an emergency and that’s all to the good. It will be true at the same time that some of the effects of the crisis and some of the things going on globally will have a more enduring impact on the level of interest rates.
On the risks posed to households from a rate increase:
‘‘That’s one of the arguments for going more gradually. I don’t think it’s an argument for never doing anything. Let’s not forget that in 2007 official interest rates were almost 6 percent and the housing market was not frankly, a central part, certainly not mortgage losses for banks, a central part of the story on the financial crisis, it’s not what happened. That can be exaggerated.”
“Having said that, average levels of debt and gross levels and indebtedness are higher than in the past, there is clearly a tail.
‘‘It’s one of the reasons for expecting why you might want to go more gradually, if only because it makes you more uncertain about the impact of a given rate change. If you’re more uncertain about the impact of a rate change you’d tend to go a little more gingerly.”
What gradual rate increases mean:
“My view, you should judge it relative to the pace of previous hiking cycles.
‘‘You can see that in the curve, go away and look at the forecasts, and say: look at what a more gentle path, and it is clearly more gentle than the forwards than in previous hiking cycles, that delivers roughly the right outcome for us.’’
On the prospects of a shock to confidence from a rate increase:
‘‘Possibly. Again, it’s not as if people haven’t talked about this, it’s not as if it’s not in the market curve, so I don’t know how much of a shock it could be. I’m sure when it happens it will be portrayed by the newspapers as a huge shock, but they’ve been writing about nothing else for six months so it can’t be a shock to them when it happens or indeed to many other people.
‘‘Since 2007 debt levels are lower. Household debt ratios are about 20 percentage points lower than in 2007, corporate ratios are lower. There may be some more intangible way in which some people have got quite used to it. But who can you find, certainly not any journalists I talk to or anyone on the outside who thinks interest rates will be zero in five years’ time. In that sense it’s not going to be a massive shock.
‘‘It’s an odd world where five, six, seven, eight, nine years ago you could move interest rates about a quarter point and no one would know and the debt ratios were higher than where they are now. You move to a world where they’re lower, and people think and write about nothing else for six months and then think it’s going to be a tremendous shock when they go up 25 basis points. I think, possibly, but that wouldn’t be my central expectation. There is a reason, because of debt, to tread a little more carefully, and one of the reasons for expecting a gentler path is precisely because of the uncertainties you’ve been talking about, but you should not skew that into a line that says therefore any rate rise is impossible. That’s not true.”
On whether the BOE should publish a forward rate path:
“On balance I’m not sure that would be a good thing.”
On the IMF view that the pound may be overvalued by more than 10 percent:
“Well, I think it’s quite possible. I think there’s some confusion to say about what that statement means, OK? And how one views the exchange rate.
‘‘What has happened in the last two years, as you know, is that we have recovered to a greater extent than our trading partners. You’d expect that to push up the exchange rate, and you would expect it to push up the exchange rate to a level that was overvalued relative to a long run in which everyone was growing at the same pace relative to their potential. It’s not some arbitrary thing. To put it another way, the exchange rate is the result of imbalances, not the cause of them.
‘‘It’s not something that arbitrarily has gone up and causes exports to fall. What happens is, when you get very strong growth in domestic demand, the price of your non-tradable output goes up, relative to the traded stuff, that’s why the exchange rate has moved up. It’s not so much that I’m worried about the pound crowding out exports, what worries me is that the rest of the world isn’t growing, that’s the reason both for weak exports and the stronger exchange rate, that is the underlying concern.
‘‘What I said yesterday is that I’m not worried, given that I already know that about the current-account deficit. You can’t run a current-account deficit of 4 1/2 percent of GDP, one of the points I made is that I suspect part of that, this net income balance, won’t be negative forever, I just don’t believe it. The trade bit has actually narrowed.
‘‘It’s not the exchange rate causing the imbalances, it’s the imbalances causing the exchange rate. Those imbalances are the problem, the fact that Europe isn’t growing. I said this in a speech this year. Indeed it’s one of the reasons we’ve got slower growth going forward. It’s a problem for a small open economy, if the rest of the world isn’t growing.
‘‘Starting with the question, are you worried about sterling, or, sterling has caused this, it’s to start in the middle of the story, not at the beginning.”
On prospects for Europe:
“There are certain demographic things, that mean the medium term rate of growth in Europe is likely to be lower than here, than in the U.S., the populations, the workforces in these countries are shrinking.
‘‘What I’d sort of hoped, more than hoped, expected to a degree, that you would see some recovery in Europe, my interpretation of our recovery is that what happened in Europe in 2012 is a central part of it, when the ECB said it would do whatever it takes. More important, they got the banking for core country governments, that put some force behind that statement, that you saw the collapse in funding coasts of banks, you saw what amounted to a big cut in interest rates, our economy responded to that in the way one might have expected, which is great, and I sort of thought that given one of the primary sources for that was in Europe you might have expected the European economies to do the same. That hasn’t happened to the extent that I’d hoped. But even to the extent that I’d expected.
‘‘Suppose Europe stays weak, I’d expect the U.K. economy to slow a bit. It’s one of the reasons why we’ve got slightly slower growth.
‘‘Don’t see the strong pound as the exogenous primary mover. The point is that we cannot grow indefinitely stronger than our trading partners. That’s the point.”
On the pound’s effect on the economy:
“Let’s imagine it was some exogenous move. It would, on its own, slow growth, absolutely, and that might take a time, and it would also, for a time, depress inflation, and indeed it’s been having that effect in our forecasts for CPI inflation and probably will again, it’s appreciated another 2 percent, 3 percent since May. The direct effect on inflation, or on the price level, might be something you might want to look through. On the other hand, it looks to have been quite protracted. The effects of the depreciation were quite protracted, and it may be that the effects of the re-appreciation we’ve seen over the last year are quite protracted as well, so yes it will have an effect on growth, it will have an effect on inflation.
‘‘It’s not the exchange rate I’m unrelaxed about, it’s the rest of the world, that is the message I’m trying to get across. What I’m uncomfortable about, what is unsettling, what is difficult is to have your trading partners not growing, when that happens, and you grow, the exchange rate will go up and yes, the exchange rate will do the work in slowing your growth, but the fundamental driver of this is the fact that growth in the rest of the world is weak, that is the difficulty. That’s why the exchange rate has moved, the exchange rate is not some arbitrary animal that’s just decided whimsically to go up. It’s gone up because we’ve outgrown our trading partners, and it’s the fact that the rest of the world is weak, that is the concern.
‘‘If it stays weak, because if it stays weak, inevitably both directly and via the exchange rate, there are limits to which we can outgrow the rest of the world. It’s not so much, am I worried or not worried about the exchange rate? What worries me is growth in the rest of the world. The exchange rate plays a role in that, a part in that, but put it this way, if the rest of the world were to accelerate, if Europe were to accelerate, I would fully expect sterling to weaken. It’s part of the reason that demand is expected to decelerate over the next year, it’s part of the reason, it’s not the fundamental driver of things, but it’s part of the reason. It’s gone up by another 2 percent since May. It’s the wrong way round to view this as the primary reason, it depends why it happens.
‘‘I can draw a parallel with interest rates. Interest rates go up because the economy is strong, so what you see in the data is actually a positive correlation between interest rates and growth. Now higher interest rates, other things equal, will slow the economy down, the same with the exchange rate, but the reason it’s gone up is because the rest of the world is weak, that is the primary reason you’d be worried about it. If the exchange rate moved because we’ve suddenly got more productive, it wouldn’t worry me. If our tradable sector suddenly got really productive, sterling would go up, and that would have no impact on growth at all, it would just be a reflection of the fact that we’ve got a better tradable sector and growth would be better. If it goes up because the rest of the world is weak, then it does worry me.”
On whether the BOE might choose to stop reinvesting maturing gilts:
“Possibly, we’ve said two things so far about this, one is that before we did that would have to get to a level from which they could be materially cut, and that makes sense because we want interest rates to be the sort of marginal policy tool, mainly because we understand more about how they work, we have more experience with that. We’ve also said, that at least until the first rise we will keep reinvesting, I don’t think we’ve made any commitment beyond that. It’s a decision for the MPC. I would expect if we were ever to stop reinvesting we would let people know some time in advance, when that was going to happen, or more precisely, the conditions under which it would.”
On whether central banks can avoid volatility through communication:
“My own view is that, to the extent that there is a link between monetary policy and volatility or the price of risk more generally, in spreads in some markets, it’s not us, we’re pretty small. The main mover here will be the Fed. I say that not just because if you look at where the tight spreads are, they are in dollar markets. It’s U.S. events that really matter, and that’s true of a puzzling degree even to our own short-term risk-free interest rates, you get a payrolls number that’s bigger than expected and short-sterling falls. So it’s a consideration but (a) it’s not material for monetary policy on its own and (b) when it comes to the financial stability of the U.K., that is primarily the FPC’s job and not the MPC’s.”
On markets currently:
“There are some areas, more in dollars than in the sterling market, where spreads are quite tight relative to history. If you look at our own interest rate volatility, it is compressed at the front end, but actually it rises quite a bit, if you think of a maturity curve for vol, it’s actually quite steep. And in some ways you’d expect it to be quite low when you’re close to the zero lower bound, you’ve truncated half the distribution, so volatility is bound to be lower. In sterling markets I don’t think there’s a reason for concern.”
On European yields:
“The reasonable level depends so much on prospective policy and politics. What happened two years ago, with ‘whatever it takes,’ it did not at a stroke get rid of public-sector debt in some of the peripheral economies, nor did it, at the stroke of a pen, make them competitive enough to give you the kind of growth that could reduce the debt burdens from the other end. What it did do was to suggest certainly that any premium in those yields for breakup risk had been reduced. And it might suggest a more preparedness of some of the core countries to offer some kind of insurance, at least for the banking systems and so forth for the south. Putting a number of these things is difficult. It is very striking the extent to which yields have fallen. It’s a less pure measure of risk-taking, it depends on so many other things, political judgments and so forth. It’s harder to come to a view for those assets that this is clearly wrong or right.”
On central banks normalizing policy:
“Inevitably, you would anticipate some bumps if you’re, prospectively over time, exiting a policy that’s pretty much unprecedented. And that puts a premium on thinking about communicating carefully. Saying that doesn’t mean that you are going to do something to try and reduce the risk. It will be a world that ends up being more volatile.”