BoE’s Saunders warns on inflation risk

by | Jul 15, 2021

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The Bank of England may need to take action to curb inflation in the near future after conditions for tightening monetary policy were met, a BoE rate setter said on Thursday.
Michael Saunders, an external member of the BoE’s monetary policy committee, said with the economy reviving and inflation above the MPC’s 2% target the BoE may need to end its bond-buying programme earlier than expected in 2021 and increase borrowing costs in 2022.

The BoE cut interest rates to a record low of 0.1% at the start of the pandemic and has not increased them since amid economic uncertainty. The central bank also stepped up its bond-buying programme to support the economy.

Some economists have warned that rising prices could become entrenched as the economy recovers from the pandemic but the BoE has said it expects the effect to be temporary and has resisted calls to tighten policy. Governor Andrew Bailey has said he needs clear evidence that output has returned to normal and that inflation is around the 2% target.

In a speech, Saunders said there was clear evidence that output had regained most of its ground and that core inflation was no longer below target. The annual rate of inflation rose to 2.5% in May from 2.1% a month earlier, beating economists’ forecasts.

“If activity and inflation indicators remain in line with recent trends and downside risks to growth and inflation do not rise significantly (and these conditions are important), then it may become appropriate fairly soon to withdraw some of the current monetary stimulus in order to return inflation to the 2% target on a sustained basis,” Saunders said.

“In this case, options might include curtailing the current asset purchase programme – ending it in the next month or two and before the full £150bn has been purchased – and/or further monetary policy action next year.”

Saunders has taken a tougher line in his comments on inflation while voting with other MPC members to leave rates unchanged and continue with bond purchases. Departing Chief Economist Andy Haldane was the only member to vote against further bond purchases in June.

In his speech, Saunders said price pressures in global manufactured goods may prove persistent. When effects from rebounding energy prices fade, global cost pressures may exceed the 2% target two or three years ahead, he added. But he said any increase would be limited and the MPC would be able to relax policy if needed.

“Given lags, a persistent rise in non-energy global costs can affect UK inflation two or three years ahead, and hence carries some weight in setting monetary policy,” Saunders said. A modestly tighter stance … should help ensure that the prospective further rise in inflation above target later this year does not feed through to a damaging rise in medium-term inflation expectations.”

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