Britain in ‘deep recession’

LONDON, Feb 12 — The Bank of England is prepared to cut interest rates below 1 per cent and use "unconventional measures" to dig the economy out of the "deep recession" that it failed to spot six months ago, the governor of the Bank of England said yesterday.

Mervyn King said Threadneedle Street would use the "full range of instruments at its disposal" to counter the impact of the credit crunch and a collapse in confidence.

After predicting in August that the economy would be broadly flat over the coming year, the Bank said yesterday output would be slumping at an annual rate of 4 per cent this year. King said the Bank's nine-strong monetary policy committee had not erred by leaving interest rates at 5 per cent last spring and summer before slashing them repeatedly since October; the shock to the global economy last autumn had been unexpected and could not have been predicted, the governor said.

Unveiling the Bank's quarterly inflation report, King said: "The UK is in a deep recession. Monetary fiscal and financial policy have all responded vigorously to that prospect."

The governor added that the UK was caught up in a synchronised global downturn. "Restoring both lending and confidence will not be easy and will take time," he warned.

Despite the aggressive downgrading of the MPC's growth forecasts in recent months, King said there was a risk that the recession could be even worse than currently envisaged. "The MPC judges that the balance of risks to the path for GDP is very much to the downside, reflecting in large part uncertainty about when lending and confidence will recover."

Inflation is forecast to be 0.5 per cent in two years' time, assuming interest rates are kept at their current 1 per cent. The Bank believes that the deflationary forces hitting the economy will require "further easing in monetary policy" to bring inflation back up to the government's 2 per cent target. "That is likely to include actions aimed at increasing the supply of money in order to stimulate nominal demand."

King explained that the Bank stood ready to pursue "quantitative easing" — a policy that involves an expansion of the money supply through the purchase of gilts. The Treasury has already given outline approval for the emergency measures, which are designed to boost growth once the interest-rate avenue has been exhausted.

King said that Threadneedle Street could introduce quantitative easing at any time. "Bank rate doesn't have to go to zero, because we're getting to the point where it doesn't make a great deal of difference where it is."

The governor added: "We now will be moving to is a world in which we would be buying a range of assets, certainly including gilts, to ensure that the supply of money will grow at an adequate rate to keep inflation at the target so that normal economic growth can resume."

Asked about the Bank's approach to the crisis, the governor admitted: "I'm not pretending that everything worked well. It clearly didn't". He added, however, that the Bank needed new policy instruments if it was to target both inflation and the boom in asset prices that led to the financial crisis of the past 18 months.

As for savers, King said that he had "immense sympathy" for them because they are "clearly the one group who did not cause any of the problems we are facing". However, he said that, in the short run, "if we did not take measures to stimulate the economy then the savers would find they would be actually worse off — there would be even higher unemployment and even more of a downturn in the economy".

Colin Ellis, European economist at Daiwa Securities, said the Bank was expecting growth to bounce back in 2010 and be at 3 per cent a year by the end of the year. "The marked rebound in growth that the MPC is expecting raises fears that it is still too relaxed about the recession," he warned.

"Perhaps that is not surprising, given King's aversion to admitting past policy mistakes — indeed, when pressed on these at the press conference, King lost his cool, responding more aggressively than usual to questions about past policy errors. Unfortunately… big errors were made." — The Guardian