The Bank of England risks creating “distortions” in the UK economy if the record-low base rate of 0.5 per cent is maintained, a Monetary Policy Committee member warns.
Writing in the Daily Telegraph today, MPC member Kristin Forbes warns policymakers not to become complacent despite positive indications on growth and wages in recent months.
GDP growth was 0.7 per cent in the second quarter, “around its long-run average before the financial crisis”, Forbes says. Inflation has also remained stable, hovering around the 0 per cent mark.
Forbes says: “With such low inflation today, it is understandable to want to avoid pre-emptively ending this holiday. A solid recovery is finally here. Increasing interest rates prematurely could moderate companies’ willingness to invest and consumers’ willingness to spend.
“But unfortunately monetary policy works with lags…An increase in interest rates is generally believed to take somewhere from one to two years to have its maximum impact. Maintaining interest rates at the current low levels during an expansion risks creating distortions.
“Therefore, interest rates will need to be increased well before inflation hits our 2pc target. Waiting too long would risk undermining the recovery – especially if interest rates then need to be increased faster than the gradual path which we expect.”
She adds that there is “no need” for the Bank to raise rates until it is confident inflation is heading towards 2 per cent – its target – over a two-year time horizon.