Bank warns economy set for 'painful adjustment'

PA
Wednesday, 13 August 2008


Bank of England governor Mervyn King today warned of a period of economic stagnation as the UK goes "through a difficult and painful adjustment".




Projections from the Bank show output broadly flat during the next year, but City economists said with inflation set to remain above target for some time it was unlikely that interest rates would come down in the near future.


The Bank's assessment of the UK economy is much gloomier than in May's quarterly report, amid weaker prospects for consumer spending and investment.


Mr King did not rule out the possibility that the UK could enter a period of recession, as defined by two successive quarters of negative growth.


He said that with economic growth forecast to be broadly flat, it was "bound to be the case that there's a quarter or two of negative growth".


The Bank's report said with no rate cuts in the next two years inflation would most likely peak at just below 5% in the coming months before falling sharply next year and dipping below the official 2% target in two years' time.


Mr King said: "The adjustment of the UK economy to higher commodity prices and a more realistic pricing of credit will be painful.


"The next year will be a difficult one, with inflation high and output broadly flat. But with monetary policy focused on its task of bringing inflation back to the target, we will come through the adjustment.


"And we will return, if not to the 'nice' decade, then at least one that, as central bankers say, is not so bad."


Rising food and energy prices yesterday pushed up CPI inflation to 4.4% in July. The Bank warned today there were serious upside risks to its projections, particularly from rising energy bills and wage growth.


Global Insight chief economist Howard Archer said: "Although the report dilutes fears that the Bank of England will raise interest rates, it also suggests that any cuts will be some time off as the Bank is determined to show its commitment to bringing inflation down to 2%.


"While we would not rule out a cut in November - particularly if the economy slows markedly further and oil prices continue to retreat - we are maintaining our view that interest rates will stay at 5% until early 2009.