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Rate rise will come before QE withdrawal, says King

Bank of England governor Mervyn King has revealed that any withdrawal from the £200bn quantitative easing programme will only come after interest rate hikes.

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In his Mansion House speech in London last night, King said the Monetary Policy Committee is willing to do what it takes to attempt to maintain the 2 per cent inflation target and was confident that would be met in the medium term.

He said: “The MPC judges that it is likely, though not certain, that spare capacity will press down on inflation. That seems to be happening in both the United States and the euro area where underlying inflation is falling. No one should doubt our determination to meet the target.”

But he also said that the “abnormal degree of monetary stimulus” would only be withdrawn after a rate hike is enacted.

He said: “When the withdrawal comes, it is most likely to be through a rise in bank rate with asset sales being conducted later in an orderly programme over a period of time, leaving bank rate as the active instrument.”

Barclays Capital analyst Simon Hayes says: “This is the first time the Bank has suggested that prevailing conditions in the gilt market may not be conducive to the reversal of QE asset purchases.”

King also commented on the current inflation situation. While the Consumer Price Index is above target at 3.4 per cent, King said it is being temporarily held up by VAT increases at the end of 2009, not by any other traditional inflationary pressures.

He said: “A continuous rise in prices would ordinarily be associated with strong money growth, wage inflation, rapid increases in money spending and an excess of demand over the supply capacity of the economy. The UK economy exhibits none of these traits.”

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