BoE deputy chief: Economy "uncomfortable"

Economic prospects for the rest of the year are "uncomfortable", the deputy governor of the Bank of England understated today, suggesting assumptions that oil and food price rises may moderate could be misplaced.

In a speech to the London Stock Exchange, Sir John Gieve said: "After 15 years of unbroken growth and low inflation, the prospect for the rest of this year is uncomfortable: inflation will continue to rise sharply while growth tails off and unemployment picks up."

Turning to the future of interest rates, Sir John expressed caution, suggesting the Bank of England will wait and see what will happens to the economy and inflation rather than make pre-emptive monetary strikes.

"There are two good reasons for care," he said. "First policy has to be appropriate for the whole economy; the interest rates which would be needed to have a significant effect, say, on the growth of house prices in recent years might have been far too high for other industries.

"Secondly, central bankers have been cautious to put much weight on their own assessments of when an increase in asset prices is becoming unsustainable. If they get the judgement wrong, they risk slowing growth needlessly and bring inflation persistently below target."

The circumspect statements led analysts to believe interest rates will now remain on hold for the rest of the year.

Sir John explained the sandwich the Bank's monetary policy committee (MPC) was in between the credit crunch demanding in interest rate cuts and a slowing economy from oil and food price hikes.

"If the sharp credit squeeze was the only challenge we faced, the MPC would be expected to continue reducing rates to mitigate the risks of an excessive fall in demand and in inflation in the medium term," he said.

"But of course we do face another simultaneous shock, the sharp rise in commodity prices, which is driving up inflation across the world.

"And that raises the question whether we should be raising rates rather than reducing them. Moreover recently each month seems to have brought more worrying news on both fronts."

However, he remained firm that inflation was the greatest menace facing the economy – with consumer prices index (CPI) now at 3.8 per cent compared with a target of two per cent.

"I can assure you that we will do whatever it takes to bring inflation back to target in the medium term," Sir John declared.

Commenting on the speech, Howard Archer, chief Uk economist at Global Insight, said interest rate cuts now seem unlikely unless the UK economy hits the rocks.

"Given that inflation seems set to near five per cent later this year and is likely to still be above four per cent at the end of 2008, the Bank of England will probably be reluctant to cut interest rates until 2009 unless the economy really falls off a cliff over the coming months (which it could well do!)."

He added he expected "significant" cuts in interest rates in 2009 down to four per cent