Monetary policy has reached its limits in supporting growth via more stimulus. The challenge now is to adjust to the “new normal” – a world which has been forged by the financial crisis and the rapid growth of emerging market economies. As part of this adjustment, we need to gradually return interest rates to more normal levels. That doesn’t mean going back to the level of interest rates that we saw before the crisis; but a gradual rise to 2 to 3 per cent over the next two to three years would provide savers with a better rate of return, which is crucial in supporting long-term growth prospects. A gradual rate rise starting next year would also give both consumers and businesses time to adjust their plans. The risk of delaying a rise for too long is that rates may need to increase more sharply in the future, which could result in a negative shock to the economy.
Andrew Sentance is senior economic adviser at PwC and former member of the Monetary Policy Committee.
If the Monetary Policy Committee (MPC) is becoming disillusioned with how much more economic benefit quantitative easing (QE) could have, it makes sense to look at more traditional methods of stimulating economic growth, such as a rate cut in the future. The obstacles that the MPC has discussed in the past are not insurmountable. Reducing interest rates to zero, or slightly above, will have a positive impact on confidence. Most people don’t understand exactly what QE is, so pursuing policies that people do understand may give sentiment a boost. Cutting the base rate should also result in a fall in interest rates across the economy, for example mortgage rates, and rates that businesses can borrow at. Recent business surveys suggest that the recovery is still not gaining momentum, and The sharp rise in GDP in the third quarter was due to temporary factors. So the MPC should provide the economy with more stimulus.
Victoria Redwood is chief UK economist at Capital Economics.