King remains upbeat despite ‘painful adjustment’

The British economy is suffering an unavoidable period of “difficult and painful adjustment” in the view of the Bank of England’s governor.

Mervyn King last week acknowledged at the launch of the Bank’s quarterly Inflation Report that households are suffering as a result of soaring energy prices, falling house prices and tighter credit. Economic growth is likely to slow as a result.

Over the next few months, King says, inflation is likely to rise to 5%. It looks set to remain above the target level of 2% well into 2009.

In conjunction with this the monetary policy committee (MPC) projection for GDP growth is flat over the next year. Annual GDP growth is likely to come close to zero in a year’s time.

However, the MPC’s projection for inflation in the medium-term was revised down sharply. Its two-year forecast for inflation fell below the 2% target rate and continued to drop further in its three-year forecast.

The scope for interest rate cuts should increase next year if inflation peaks before the end of 2008, as predicted by the MPC.

Once inflation starts to fall and with there being concerns over economic growth, interest rates are more likely to be cut. However, such cuts are unlikely in the short term.

“What we’ve seen is a combination of large rises in oil and food prices and the biggest financial dislocation since the second world war,” says King.”[Both things] at the same time has meant life is extremely difficult. [But] We will come through it and we will resume a normal pattern of economic growth.”