Bank of England governor Mark Carney speaks on Thursday night at Lincoln Cathedral in London. Carney’s speech puts the British central bank on track to follow the US Federal Reserve by raising interest rates in the near future.

Reuters/London

Bank of England Governor Mark Carney has raised the possibility that the central bank could lift interest rates from their record low before the year is out, his strongest hint yet that the BoE is moving towards tighter policy.
Carney said in a speech late on Thursday that the British economy’s strong momentum meant the decision on when to raise rates would come into sharper focus around the end of this year.
Sterling extended gains yesterday, touching a new 7-1/2 year high against a basket of other currencies, as until recently financial markets had not expected rates to rise before mid-2016.
But many economists treated his remarks with caution, as similar comments in 2014 were not followed up by higher rates.
Carney’s speech puts the British central bank on track to follow the US Federal Reserve by raising interest rates in the near future, after more than six years at rock-bottom levels amid the fallout of the global financial crisis.
“In my view, the decision as to when to start such a process of adjustment will likely come into sharper relief around the turn of this year,” Carney said in a speech at Lincoln Cathedral in eastern England.
A slump in oil prices in the second half of last year put paid to earlier plans by the BoE to raise interest rates, as inflation tumbled towards its lowest rate since 1960.
British government bonds reacted cautiously to Carney’s comments, with little change yesterday in their pricing for a rate rise, as they had been wrong-footed last year.
“However, the pick-up in wages makes this time far more likely to be ‘for real’,” Jamie Searle, a fixed income strategist at Citi, said.
Carney said inflation pressures were now starting to firm again. British wages — a key metric for the central bank — have recorded their fastest growth in over five years, and Carney said he expected the effect of falling oil prices to drop out of the annual inflation rate around the turn of the year.
But he also said sterling’s recent strength would act as a brake on higher rates, and that this was “particularly relevant” as the monetary policies of the eurozone and Britain diverge.
Carney said the prospects for higher rates depended on wringing out the remaining slack in the economy, which would require sustained economic growth of around 0.6% per quarter.
In the medium term, he predicted interest rates would probably rise to a level about half as high as their historical average of around 4.5%.
Outgoing MPC member David Miles on Tuesday suggested the right level of interest rates, to keep inflation on track and demand in line with capacity, would be around 3% in two years’ time. Miles, usually seen as a “dove”, surprised markets by saying it was “likely to be right” to hike rates soon.
There is now a strong possibility that August’s meeting could see a renewed split among the nine BoE rate setters for the first time this year. In the second half of last year, before inflation started to tumble due to lower oil prices, MPC members Martin Weale and Ian McCafferty voted for higher rates.
But rising productivity, and the risk that underlying inflation would be slower to pick up than some at the BoE expected, made a rate rise in early 2016 the most likely option, JP Morgan economist Allan Monks said.
Carney also acknowledged the risks to Britain’s economic outlook, including its large current account deficit. This argued for a “right policy mix” that includes tight fiscal policy. “Given these considerations, the MPC will have to feel its way as it goes,” he said.