Having nearly breached its previous unemployment threshold of 7%, the Bank has now revised its strategy and said it will focus instead on the spare capacity in Britain's economy, measuring it through the use of 18 separate indicators. These include business surveys, the number of hours worked and vacancies to employment rate ratios.
'Smoke and mirrors'
Market reactions towards spare capacity measures have been sceptical.
“As has been proven in the past, estimates of spare capacity are highly uncertain and certainly subject to a large degree of discretion, which in our view can be manipulated to suit other objectives,” according to Azad Zangana, European economist at Schroders.
The bank’s “smoke and mirrors approach” to forward guidance will certainly introduce new uncertainty for their expectations on the future path of interest rates.
"We are happy to stick to our forecast on interest rates being held until the start of 2016,” Zangana said.
However, he warned that while the BoE now has at least 18 different variables leading to its interest rate being held, the danger further out will be when inflation starts to rise again.
Interest rate 'uncertain'
According to the Bank’s report, interest rates may need to rise after a year, but for now will be kept at an all-time record low level of 0.5%. However a significant amount of uncertainty clouds this outlook: effectively, the Bank of England is now looking at time well within its forecast horizon when emergency interest rates will no longer be necessary.
“Nobody will be sure of the timeline for interest rates until the Bank announces its interpretation of the myriad of evolving data it considers key to its decision making process,” said Trevor Welsh, head of UK sovereign and inflation at Aviva Investors.
“Carney’s reference to interest rates being at 2% in three years’ time marks a sea-change in policy. He clearly expects interest rates to rise and it seems unlikely all the rate hikes will not occur in 2016-2017,” Welsh added.
Good, but it could be better
The two enemies of bond investing, higher rates and higher inflation, remained some way off. This was good news for bond investors but also for households and businesses, according to Iain Stealey, fund manager of the JPM Strategic Bond Fund.
“Mr Carney acknowledged that inflation has been more benign than expected. With global inflation remaining subdued and a stronger sterling likely to reduce imported inflation this is likely to continue. As for rate rises, he expects this to only be gradual and limited and only take place once the BoE has confidence in the recovery,” he said.
