The Monetary Policy Committee’s credibility may already have been undermined by not raising interest rates soon enough to deal with high inflation, according to MPC external member Andrew Sentance.
In a speech at the pro.manchester member’s lunch in Manchester today, Sentance said the committee has not kept up as the challenge for monetary policy switched from preventing deflation to curbing inflation.
He said: “I do worry the MPC’s credibility and commitment to the inflation target of 2 per cent may already have been eroded by not adjusting policy soon enough.”
It was Sentance’s last speech before leaving the committee at the end of May.
CPI inflation has been rising on an upward trajectory since September 2009 and currently stands at 4 per cent.
One of the major arguments put forward by Bank of England governor Mervyn King for keeping interest rates at their historic low of 0.5 per cent is that inflation is being caused by “temporary shocks” some of which are imported.
But Sentance says the rising oil and commodity prices King refers to are closely linked to growth in Asia and emerging economies and cannot simply be regarded as one of shocks that will fall away.
He said: “The longer this policy of price rise accommodation goes on, the greater the risk it becomes ingrained in expectations of relatively high future inflation and then credibility needs to be re-established with more abrupt rate changes in future.
“It may be indicators of an upward drift in inflation expectations are only flashing amber at present. But if the MPC waits until they are flashing red and if other pressures continue to push up UK inflation in the meantime, the committee could face a very difficult time next year.”