Ever since Mr Carney, the Governor of the Bank of England, offered his forward guidance that interest rates will stay low for along time, the markets have been trying to prove him wrong.
I have written before how the interest paid on the 10 year government bond or loans rose. Markets said there would need to be an early upward adjustment to the cost of government borrowing for anything other than the very short term, despite the Governor’s view. The 10 year interest rate which went below 1.5% at one point is at 2.8% today.
Now market commentators are saying the official 0.5% short term rate will have to go up earlier than Mr Carney implied, maybe as soon as 2014. Whilst there are many savers who would welcome this, people on mortgages would not. The commentators are saying this because Mr Carney said he would not consider higher rates until unemployment fell to 7%, thinking that might not be until 2015 or 2016. Instead, unemployment has fallen again last month to near 7%, and many think the 3 month figure could be down to 7% next year.
Markets should remember, however, that Mr Carney did not say interest rates would be automatically raised as soon as unemployment fell. He went out of his way to say that when unemployment reached that level, the MPC would merely look again at all the facts and forecasts. The most recent figures show inflation falling at last, to levels that do not require more monetary action to curb price rises. (Fuel prices are a different mater that we have discussed before). I suspect the Bank, should unemployment reach 7% next year, will still be reluctant to raise interest rates, until the growing recovery is well advanced.
The official forecasts have long predicted that gilt yields or the government’s own cost of borrowing will go up. It is doing so and may do more. That is part of a long process of adjusting to the end of the Bank’s big programme of buying up government bonds, and artifically raising their price and lowering the interest charge. The main concern of the Bank, subject to no inflationary danger, is to promote recovery. That requires skilful exit from the extraordinary actions of recent years, as Mr Carney well knows and is seeking to do.