Tuesday, September 24, 2013
Miles guides on guidance
Posted by David Smith at 11:30 AM
Category: Thoughts and responses

When it comes to a very clear exposition of the case for forward guidance on interest rates, the monetary policy committee's David Miles probably does better than Mark Carney. Why doesn't stronger growth weaken the case for keeping rates low? Miles answer is twofold. Growth could falter, though he doesn't think it will, but even if if continues strong, there is a huge amount of spare capacity.

This is the introduction to his speech in Newcastle, setting out the case: "For the first time in some years the news on the outlook for economic activity in the UK over the past month or so has been overwhelmingly positive. Business surveys of both current and future activity look stronger and consistent with growth at least as high as what we used to think of as normal. Consumer confidence has moved up sharply. Hardly any indicator has failed to improve.

"This is all encouraging and very welcome. It is likely that the rate of the growth of the economy right now is at and quite possibly above the average rate in the 50 years up to the onset of the financial crisis that started in 2007. But this comes after a period of several years of virtually no growth; and those recent low growth years came after a disastrous period in 2009 when output plummeted.

"So it would be spectacularly misguided to think that some signs of more normal growth mean that the economy is back to normal; and it would be equally misguided to think that if growth were to be near trend monetary policy should be quickly returned to a more normal setting. There are two reasons for that first, the recent encouraging signs of growth might not prove to be durable (though I think they will); second and more significant the economy has been operating far short of its potential and the amount of slack is almost certainly large enough to mean that a sustained period of above average growth is needed to remove it.

"I believe that the main reason why it is now useful to offer guidance on the future stance of UK monetary policy is to reduce the risk that people believe that monetary policy would be quickly tightened once output began to rise at more normal rates. The nature of the guidance is simple; the message from the MPC is this: So long as inflation pressures don't start heading in the wrong direction, we will not tighten monetary policy until a recovery is strong enough and sustained enough that it has made a meaningful dent in unemployment so that it at least falls to 7 per cent."

The speech is here.