Policy change on interest rates?

Sunday 05 January 2014

Bank of England policymakers will gather for their first meeting of the new year this week amid mounting expectations that governor Mark Carney will change the threshold for considering interest rate rises within months.

Thursday's decision comes as economists predict the Bank will soon lower the unemployment target under its forward guidance policy due to the strength of the economic recovery. The Bank has pledged not to look at raising rates above 0.5% until the unemployment rate falls to 7%, at the time predicting this would not be reached until 2016.

But unemployment has been falling sharply - down to a lower than expected 7.4% in October - as the recovery gains traction, meaning the threshold could be hit far sooner.

While the Bank is not expected to make any changes to its forward guidance policy at this week's meeting, it could reduce the unemployment target to 6.5% as soon as next month, according to experts.

Alan Clarke of Scotiabank said unemployment was 'falling like a stone'.

He added: 'We think that 7% will be hit in the early months of 2014. As a result, the Bank is likely to modify its forward guidance policy - lowering the threshold to 6.5% - most likely at the February inflation report.'

Brian Hilliard at Societe Generale said the threshold could 'easily' be reduced below 6.5%.

Despite the Bank's assurances that rates will stay low for some time, the recent pace of recovery has led to fears that borrowing costs will have to rise soon.

Closely-watched survey figures from the manufacturing and construction sectors last week confirmed a strong end to 2014, with both notching up their best quarterly performances for many years.

Economists are now forecasting that gross domestic product growth picked up pace to 0.9% in the fourth quarter, from 0.8% in the third.

But the economy still has some way to go before recovering to pre-financial crisis levels.

Mr Hilliard said the Bank's Monetary Policy Committee (MPC) is not 'anywhere near ready to raise rates, given the general state of the economy' and believes rates will remain on hold until the third quarter of 2015.