News Column

Bank's forward guidance turns out to have been a backward step

June 15, 2014

What does Mark Carney know that we don't? That was the question going around the financial markets as investors scrambled to reposition themselves after the Bank of England governor's remarkable about-turn on interest rates.

From rebuffing any suggestion that a rise from crisis-level borrowing costs might be in order, Carney moved to a warning that an increase may come sooner than markets think. Up until his Mansion House speech, they were not pricing anything in until 2015. So his words were taken as a warning to be ready for higher rates by Christmas. And by the close of play on Friday, markets had moved to accommodate this new scenario.

One can only assume when Carney says decisions about rates are "becoming more balanced" that he means the discussion is heating up at the Bank's monthly monetary policy committee meetings after more than five years in which rates have not budged an inch.

While the talk of a rise this year was a surprise, the idea that Carney would move to prepare markets for a change in the cycle is less surprising. The Canadian has been all for communication since arriving in London less than a year ago.

Which raises the question: why bother using the banner "forward guidance"? Carney has already had to overhaul that scheme once, when unemployment fell faster than expected. Now he is telling markets that despite all the guidance, they are not getting the right message.

The fact is, monetary policy set by nine voting policymakers has always been, and always will be, more nuanced. It is not something that can be laid out on a nice reliable path, especially on the bumpy road out of a recession, when pent-up demand leads to bursts of growth that can easily peter out.

Far safer then to just stick to sending markets messages when they are needed and assign forward guidance to the history books, along with all the embarrassing pitfalls it presents.

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Source: Observer (UK)