GDP figures out earlier this week confirmed that the UK economy is growing well. In five of the past six quarters, UK GDP has risen by 0.7 per cent or more. The annualised growth rate over this period has been 3 per cent. The services sector has been the main engine of growth. Retail, distribution and other local services have grown at an annual rate of nearly 5 per cent since early 2014. The equivalent figures are 4 per cent for transport and related activities, and nearly 3.5 per cent in business and financial services.
This picture is consistent with consumer demand becoming a more significant engine of growth as wage increases pick up and inflation remains at zero. In 2015, the UK should be the fastest-growing economy among the G7 for the second year in a row.
Yet we still have a level of interest rates set for a very different economy. In March 2009, I and other members of the Monetary Policy Committee (MPC) voted unanimously to cut the Bank’s official interest rate to 0.5 per cent because the economy was dropping like a stone – not just in Britain but around the world. Fears of financial meltdown and persistent deflation were rife.
More than six years later, the world has moved on. The UK is entering the seventh year of economic recovery. The unemployment rate is very close to its pre-crisis level. Unfilled vacancies are higher than before the financial crisis. And business surveys are showing that skill shortages are becoming an increasing concern. The CBI reports that one in five manufacturers believe skill shortages are holding back their expansion plans – figures last seen in the Lawson Boom of the late 1980s.
Mark Carney and other members of the MPC are now signalling that a rise in UK interest rates is approaching. They should not wait too long. The US Federal Reserve is on course to raise rates in September. The MPC should not be far behind.
Central bankers can always find some reason to postpone a rate rise. The level of the pound, low inflation and uncertainty about the global economy are currently the most often cited reasons for delay. These arguments would be more convincing if interest rates were currently at a normal level, and the Bank of England was considering a genuine tightening of policy.
But that is not where we are now: interest rates are at their lowest level in recorded history. We need to restore a degree of normality to monetary policy, striking the right balance between borrowers and savers. The present healthy growth environment provides a good opportunity to start the process. Even if the Bank Rate rose to 2 per cent, this would only be just sufficient to compensate savers for inflation over the medium term.
An independent central bank must be prepared to take difficult decisions which may be controversial in the short term. The MPC should show its mettle by raising interest rates this autumn. If it ducks that challenge, a sharp interest rate rise in the future looks the most likely prospect for the UK, as the Bank of England finds itself behind the curve.