Bank should raise interest rates to stop inflation overheating, warns policymaker

INTEREST rates should go up to prevent inflation rising too far, Bank of England policymaker Michael Saunders has warned.

A slightly higher interest rate would still provide stimulus to the economy but at a lower level, he said, and would not risk squashing growth.

“We do not need putting the brakes to on be so much that the economy weakens sharply. But our foot no longer needs to be quite so firmly on the accelerator in my view,” said Mr Saunders, who voted to raise rates from 0.25pc to 0.5pc in August’s policy meeting.

“A modest rise in rates would help ensure a sustainable return of inflation to target over time.”

He argued that interest rates could be cut again if the economy slowed down or if the Brexit process was bumpier than anticipated. “We should not maintain an overly loose stance as insurance against this scenario. Rather, we should be prepared to respond as needed if it happens,” he told an audience in Cardiff.

Officials including Mark Carney, the Bank’s Governor, have explained that the Monetary Policy Committee has to balance the trade-off between growth and inflation. So far a majority on the committee have judged that there is enough slack in the economy to keep rates low in an effort to encourage growth without generating higher inflation.

In part that is because the recent rise in inflation has been caused by the weakness of the pound rather than any domestic pressures on prices.

But Mr Saunders, a former economist at Citibank, fears inflation is now too high to continue on this course, with domestic factors also pushing up prices.

“The prospective tradeoff is beyond my limits of tolerance, with the likelihood of an early elimination of slack and an extended period of above-target inflation,” he said, noting that unemployment is now below the Bank’s estimate of the equilibrium rate.

Mr Saunders added that he believed the economy’s underlying rate of growth was stronger than two recent weak quarters would suggest.

As evidence he noted that companies were increasingly struggling to find the workers they needed, parttime workers were getting more hours and manufacturers had less spare capacity than usual, all indicating that there was little room for the economy to grow more without generating extra inflation. “Overall, I suspect that the economy will not be too bad in coming quarters, probably growing a little faster than the MPC’S central forecast and probably a little above trend,” he said.

“Consistent with this outlook and trends in business activity, firms’ hiring intentions remain a bit above average, suggesting that labour demand will continue to outstrip labour supply.”