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Bank of England backing for controversial interest rates decision was near-unanimous

Out-Law News | 14 Aug 2013 | 4:05 pm | 2 min. read

New Bank of England Governor Mark Carney's controversial plan to tie interest rates to unemployment figures was backed by all but one of the Bank's rate-setting Monetary Policy Committee (MPC), minutes have revealed. 

New unemployment figures show that the jobless rate has not fallen and remains at 7.8%, resulting in predictions from market analysts that rates will stay at 0.5% until 2016, in line with Bank of England (BoE) predictions.

The decision to hold interest rates at the current historic low of 0.5% until unemployment falls to 7% was backed by eight members of the MPC, according to minutes published today (15-page / 128KB PDF). The MPC meets monthly to set interest rates and decide on the need for other measures, such as quantitative easing (QE). One dissenting member voted against in order to register his preference for slightly different criteria.

The Bank also said that it would not cut back on its QE programme, currently valued at £375 billion, until the employment threshold was reached.

According to BoE projections, it will take until at least the end of 2016 to reach this target.

Ahead of today's unemployment figures analysts had raised doubts about whether the rate would hold until 2016 because they expected a fall in unemployment. But today's figures showed no fall.

Less reliable month-to-month figures, though, do show a drop in unemployment.

"If we see a fall in the unemployment rate, it will fuel fears that interest rates may rise earlier than the Bank of England's projections suggest, and that will be bad news for the gilts market," Nick Stamenkovic, a strategist with RIA Capital Markets Ltd, told Bloomberg before today's figures were published. "Unemployment data will be more important than usual."

The Office for National Statistics (ONS) reported that unemployment remained at 7.8% of the economically active population in the second quarter of the year, unchanged from the unemployment rate between January and March 2013.

The Bank Rate of interest, set by the MPC, that the BoE charges other banks to purchase central bank money has remained constant at 0.5% since March 2009. The BoE has the power to reduce this rate when it is concerned about inflation; however, when interest rates are almost at zero and cannot be cut any further another option is to use QE to increase the quantity of money in circulation.

QE involves the BoE injecting more money directly into the economy by buying assets from insurance companies, pension firms, banks or other companies and crediting the seller's bank account. This means the seller has more money to spend or invest further, while the seller's bank has more money 'on reserve' to lend to consumers. Under the current QE programme, most of the extra money has been used to purchase gilts which has in turn pushed up their prices. This results on the 'yield', or return, on those gilts falling as a percentage of the price.

According to the minutes of its August meeting, the MPC intends to maintain its current monetary policy "at minimum" until "economic slack has been substantially reduced", unless this will result in "material risks to either price stability or financial stability". The unemployment rate will be used as the primary measure of economic stability. Once the threshold is reached, the MPC may then decide to increase the Bank Rate or reduce its stock of asset purchases under the QE programme. It may also undertake further asset purchases "if it judges that additional monetary stimulus is warranted" before the threshold is reached, it said.

The MPC has also specified three "knockouts" that will overturn its guidance linking the Bank Rate and asset sales to the unemployment threshold. These include if it takes the view that it is likely that inflation, measured according to the Consumer Purchase Index (CPI) method, will be 0.5% or more above its 2% target over the next 18 to 23 months; if inflation expectations no longer remain "significantly well-anchored" in the medium term; or if the BoE's Financial Policy Committee (FPC) judges that the MPC's stance poses a "significant threat to financial stability".

The MPC unanimously voted at holding the Bank Rate at 0.5% and maintaining the stock of asset purchases at £375bn for a further month.