LONDON (Reuters) - Market expectations that the Bank of England will start to raise interest rates in the spring of 2015 are “not unreasonable”, BoE policymaker Ian McCafferty said in a Reuters interview, adding he was watching in particular for inflation risks.
The Bank announced a new version of its centrepiece forward guidance policy on February 12, linking its rate decisions to how quickly the economy uses up its spare capacity.
The Bank said at the time that a view in markets that rates could rise in the second quarter of 2015 - when Britain is due to hold an election - was consistent with its goal of keeping inflation close to its 2 percent target.
“In that sense, you’d have to say that that market curve is not unreasonable,” McCafferty said.
“The exact timing of course is going to depend on events that have yet to unfold in terms of how the recovery proceeds over the course of the next six to 12 months or so.”
Reflecting the uncertainties about how Britain’s fast-growing economy will perform over the coming months, McCafferty said the chances of the Bank moving earlier or later than that time frame were “reasonably well balanced”.
He said he would pay closest attention to price pressures from any excessive wage rises or companies building up their profits, given the BoE’s mission to keep inflation at 2 percent.
“I suppose my view would be if anything, the risk I am watching for, because I think it fits with our mandate, is were we to see inflation risks or inflation behaviour start to develop,” McCafferty said. “At the moment, that seems to be well under control.”
Britain’s inflation fell below the BoE’s 2 percent target for the first time in more than four years in January.
Another factor for the Bank to watch is the strength of the sterling. McCafferty said a further rise in the value of the pound would be a worry and could make the Bank delay raising interest rates.
Wage settlements in early 2014 would be “quite critical” for understanding pressures in the labour market but any pay rises would have to be gauged against any pick-up in productivity which would not be immediately visible, McCafferty said.
Something that could help push inflation above the BoE’s target was a likely attempt by companies to rebuild their profit margins by not reducing prices to reflect a fall in commodity prices, said McCafferty, who was chief economic adviser at the CBI, a British employers group, before joining the Bank.
“If we did see some inflationary pressure - more than we currently expect in our central case - that would if anything, I suspect, lead the committee to consider slightly earlier rate rises.”
On the other hand, there might be more room for the economy to grow without risking inflation, given how many people in work want more hours and the ability of companies to eek out more production from their existing staff and investments.
“In my experience, through the CBI and from working in industry, if demand is strengthening it is surprising how much business can squeeze out of their workforce and their existing capital stock when pressed.”
Several BoE policymakers have given media interviews since the Bank announced its new approach to signalling when interest rate rates might rise.
Last week, Martin Weale said rates could go up sooner than the second quarter of next year if wages rose quickly.
But David Miles, another member of the Monetary Policy Committee, said there might be more slack in the economy than the BoE’s forecast of 1-1/2 percent of gross domestic product, suggesting rates could stay on hold for longer than expected.
Speaking to Reuters on Monday afternoon, McCafferty said he did not know of any MPC member whose estimates of spare capacity differed much from the BoE’s published range.
“If anything there may be some nuanced differences, as you would expect, in terms of how that degree of slack will translate into wage pressures, and that’s what we need to watch,” he said.
McCafferty played down suggestions that Britain’s housing market was at risk of overheating, saying transaction levels were still at “relatively modest levels”.
“It is far too early to talk about anything close to a housing bubble or housing boom,” he said. “At the same time we are starting to see supply pick up, both in terms of house construction and, what we learn from estate agents, that housing supply in the secondary market is starting to pick up.”
Editing by Jeremy Gaunt