Forget the financial turmoil in China and around the world. When it comes to the UK, Mark Carney would have us believe he remains in charge.
The Bank of England governor gave a robust defence on Saturday of his position as the UK’s most influential policymaker. That means base interest rates are still going up, perhaps in February or thereabouts, and will be on course to touch 2% by 2018.
It was a bold attempt to face down economists and City analysts who argue that Carney is largely impotent as the aftershocks of the 2008 crash continue to play themselves out. They see him as having little choice but to sit on his hands and watch, such is the force of the convulsions. Interest rates, the central bankers’ main lever of influence, must stay at their historic lows for fear of worsening the pain.
This not only the case for the Bank of England . The US Federal Reserve is also itching to push up interest rates, but has so far felt too anxious to make a move.
The experience of Sweden’s central bank plays on their fears. It boldly announced a rate rise in 2010, only to see the economy stall and prices start to fall. Today the Riksbank suffers the indignity of maintaining negative interest rates, which means Swedes are unable to bring themselves to spend a krona unless they know the bank will lend it to them at almost zero cost.
Carney, however, says his anxiety levels have subsided. The threat of another Great Depression, or even Swedish slump, is in the past, he feels. In his contribution to a three-day gathering of central bankers in Jackson Hole, Wyoming, he dispelled each argument in turn that global factors will keep prices low.
The first is the “secular stagnation” argument promoted by the former US Treasury secretary Larry Summers and others, that western economies face a long period of low growth as populations age. Savings are sent abroad in search of higher yields, at the expense of domestic investment in infrastructure, education and other activities that enhance productivity.
The second is that the newly expanded global workforce will keep wages low for many years to come. If it is basic economics that rising wages have the biggest effect on prices, then an era of surplus labour will mean inflation staying lower for longer.
The third is based on concerns about a succession of destabilising financial events that cements the view of a post-crash global economy in need of low interest rates. |From higher food prices in 2012 following a series of poor harvests to China’s current credit crunch and an oil glut that has more than halved the price of crude, these events tell us that the engine of growth is still sputtering.
Taking those arguments in reverse order, Carney says that events such as food and oil price fluctuations have little influence on the core measure of inflation, which he sees rising strongly over the next couple of years.
He says the introduction of 1.5 billion people from India, China and the former Soviet republics into the global workforce over the last 25 years may have doubled its size to 3 billion, but that the phenomenon has reached its peak and so is not a defining issue.
He acknowledges that a savings glut is a factor in the changing shape of the economy as the population ages, but again he does not see it as decisive.
As such, he says, a new normal has established itself more akin to the situation 30 years ago than last decade, in which economies such as Britain’s are insulated from global forces to the extent that they can follow their own monetary policies.
His survey of Britain in isolation reveals an economic landscape as pretty as a Pissarro painting.
“In the UK, there is no evidence of the development of a deflationary mindset among businesses and households,” he said. “Spending is picking up rather than being delayed.
“Consumer confidence is at its highest level in over decade and retail sales have been growing at well above past average rates. Firms’ investment intentions are robust, and inflation expectations remain consistent with our 2% target.”
Carney is no fool. His arguments are to be taken seriously, but he ignores some important trends that upset his narrative.
Britain’s labour market looks healthy following several years of expansion and the recent trend for rising wages. The latter, however, is only six months old. After such a short time, it is not surprising that real average wages have only clawed their way back to 2004 levels. Years of increasing part-time and self-employed work since 2008, mostly on low wages, only recently switched to a healthier reliance on new full-time jobs.
To make matters worse, the most recent GDP figures showed manufacturing caught in a trap of uncertain demand and a higher exchange rate that makes exports more expensive.
The Bank, like many forecasters, points to rising investment and consumer spending, but much of the investment is in property and the consumer spending based on higher personal borrowing.
Higher interest rates may address the UK’s addiction to credit to some extent, but the medicine is not without side-effects. Carney only need glance at the hundreds of thousands of householders who have mortgaged themselves to the hilt – and who will have to cut their high street spending back when monthly interest payments rise – to see how his forecasts could go awry.
The resulting downturn in spending would illustrate the fact that, despite its size and complexity, Britain’s economy is a two-trick pony. Without property and consumer spending, Britain would be going nowhere fast.
Looking more broadly, it is hard to see how the steady increase in skilled labour around the world benefits UK workers. On the one hand it creates a greater number of more affluent consumers, but the flipside is downward pressure on wages. The seismic events following the collapse of the Soviet Union and Deng Xiaoping’s embrace of western capitalism are well in the past, but labour is still plentiful and employers remain top dog.
Carney says the Bank has taken all this into account, and for that reason rates will probably not rise too far. His view, however, depends on how insulated the UK has really become in recent years, and whether the shockwaves from Shanghai, Tokyo and New York have faded into mere ripples by the time they reach UK shores.
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