Bailey Suggests BOE Won’t Lift Rates Back to Pre-Crisis High - BLOOMBERG
BY Philip Aldrick and Tom Rees
(Bloomberg) -- Bank of England Governor Andrew Bailey said interest rates will probably remain below the highs seen before the financial crisis, his latest hint that the UK central bank may be near an end to its quickest series of hikes in three decades.
He also said that decisions on rates won’t be affected by the crisis hitting the global banking system and expressed confidence that the UK will weather the storm in financial markets.
The underlying state of the British economy suggests that “interest rates will not necessarily have to return fully to, and remain around, the higher levels they once had,” Bailey said Monday in a speech at the London School of Economics.
The upbeat assessment came along with his strongest indication yet that the central bank’s two core functions — monetary policy and financial stability — will operate separately. Investors have reined in bets on further rate hikes, speculating that trouble in the banking system will lead the BOE to call off further rate hikes.
Bailey’s comments build on remarks he made after the BOE raised its key lending rate a quarter point last week to 4.25%, the highest since 2008, despite the rescue of the UK unit of SVB Financial Group.
Bailey said the UK banking system is “resilient” enough to withstand further shocks and that authorities have the right tools to resolve institutions that get into trouble. That means the BOE’s regulators can clean up messes when they occur while the Monetary Policy Committee will work to bring inflation down from double digits to the 2% goal.
“We have a strong macro-prudential policy regime in this country,” Bailey said. “With the Financial Policy Committee on the case of securing financial stability, the Monetary Policy Committee can focus on its own important job of returning inflation to target.”
He said that the “key thing from the Monetary Policy Committee is that it has the tools to do its job — that those tools are not being constrained by other factors.”
In response to questions, Bailey said, “There isn’t tension between the MPC and the FPC at all actually.”
On the future path of interest rates, Bailey said he’s more cautious now about giving guidance for where borrowing costs are headed after the scale of the shocks hitting the UK.
He gave an indication that turmoil in the banking sector — if it tightened lending standards — could take some of the heat out of the economy and reduce the need for rate raises from the BOE.
“Monetary policy has to take into account the effect of this on credit conditions, on borrowing costs, on risk premia, and we do,” Bailey said in the Q&A.
He added to remarks first made in July about the long-run neutral interest rate — known as the equilibrium rate or R* — saying that it may remain low despite the recent increases in its key lending rate. That’s because long-standing trends in the UK, such as improvements in technology and demographic changes, mean it’s “not unreasonable to expect that R* will remain low.”
Those comments are significant because BOE rates now are closer to their peak of 5.75% in 2007 than in July when he gave a lengthy academic lecture about R*. At that time, the BOE’s key rate was 1.25%, and the BOE was signaling more hikes ahead.
Prior to the pandemic, central banks said that the long-run neutral interest rate had fallen permanently in a major regime shift following the financial crisis. Economists had assumed that interest rates would therefore remain low relative to pre-financial crisis levels. However, the recent surge in inflation has questioned those assumptions as central banks aggressively tackle the highest inflation in decades
“I’m not saying we’ll revert down to the levels we were at but we will not stay as high as probably we were in the past,” Bailey said in response to questions after the speech. “The aging population story on its own would probably take us there. It’s obviously subject to very slow-moving drivers in a sense and we don’t really see those drivers changing much at the moment.”
On the economy, Bailey reiterated almost verbatim remarks he made last week in interviews with the BBC following the rates decision. The BOE, he said, will decide on rates based on evidence that emerges — and that further hikes may be necessary if there’s signs that inflation will persist longer than has been expected.
He welcomed the government’s efforts to bring more workers back into the workforce, which addresses one of the main things pushing up wages and prices.
“We expect to see a sharp fall in inflation during the course of this year, starting probably in a couple of months or so from now,” Bailey said. He added that “the path of inflation will not be entirely smooth and cost and price pressures remain elevated.”
He said growth in the economy has been a little stronger than the BOE expected, but wages are rising a little less sharply than forecast.
“We have seen some big strains in parts of the global banking system emerge,” Bailey said. “We believe the UK banking system is resilient, with robust capital and liquidity positions, and well placed to support the economy.”
--With assistance from Lucy White.