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BoE governor Andrew Bailey on inflation, patient capital and levelling up

Inflation moving above the 2% target later this year is unlikely to persist, but the degree to which unleashed household savings built up through the pandemic impacts on the economy will need to be watched carefully, governor of the Bank of England Andrew Bailey has said.

On a virtual meeting to Wales, where he held discussions with businesses, he said that the big rise in US inflation to 4.2%, should ease.

He also said that the provision of more productive capital, including debt to equity conversion, needed to play an important role in boosting UK productivity levels.

Inflation in the US, after the huge financial stimulus from the Biden administration, jumped 4.2% in the 12 months through to April, up from 2.6% in March – the biggest increase since September 2008.

Last week the Bank of England forecast that inflation in the UK should go above target in Q3. Inflation, as expected, is being fuelled by the dropping out of last year’s pandemic induced falls in energy and oil costs.

The governor said: “On that basis our forecast does show that inflation does rise up to the 2% target and then goes through it at about 2.5% in Q3, so September to October-ish.

“The question is though what happens next?

“On the basis of the forecast we published last week we don’t see it persisting because we see a recovery in the economy in the sense of catching up a lot of ground that was lost last year.

“So by the end of this year GDP will basically be back to where it was at the end of 2019, but we have still lost two years of growth.

“After that we see it starting to slow and the stimulus from fiscal policy starts to wear off. At that point we take the view that growth will come back to where it was before Covid and that will take inflation back towards target.

“But that said really throughout the course of this year now we have seen quite a lot of evidence of strong input prices.”

This he said had been impacted by a shortage of semiconductor chips worldwide, as well as the recent closing of the Suez Canal.

He added: “We have had an imbalance of containers going to the wrong place, which has been put down to the PPE trade this year and last.

“That has affected shipping prices and input prices, but we haven’t seen it come through to consumer prices. We obviously watch it very carefully.

“With the US, I would say you are seeing a stronger version of the same story, but they are seeing the prices come through faster then we are. The Federal Reserve have said they think it will be transitory, but I am sure they are watching it very carefully.

“So at the moment yes there will be a rise in inflation, we expect that, but we don’t expect it to persist above target.

“But I can tell you we are going to watch it very carefully as it is one of the most important moving parts as it were, so it is going to be under intense scrutiny.”

He said risks remain on both side of the forecast, where previously it was distributed more towards the downside.

Mr Bailey said: “The downside risks of course still remain and we could sadly a get a return of Covid in some form or another.

“The upside risk is that we have had a very big build up in savings, which actually has been unprecedented because household incomes have been much more stable than outputs as people have not had the opportunity to spend.

“It is not evenly distributed at all and concentrated more with those with high incomes and the elderly.

“We have made an assumption of how much is going to be spent over the next two to three years and we have just increased that assumption in the latest forecast to 10%.”

On productive capital he said the Bank of England, with the Treasury and the FCA, have established a taskforce with the industry including pension funds and fund managers.

On a more longer term patient capital approach to funding firms for growth, he said it would be one of the most critical elements of the recovery post Covid.

He said: “When you think of the level of debt we have had to take on to bridge through Covid, which was very sensible, obviously the question is how you manage out of it.

“We will more easily manage out of it if we have a higher underlying rate of growth in the economy and to do that we have to raise the level of investment and we have to raise the level of productivity growth that has been very weak for the last decade.

“Productive finance is obviously an important part of financing that. It is also important for things like climate change, which is both a challenge and opportunity in terms of investment and growth.

“So, my view is it is a critical part of the sort of post Covid landscape that we raise the availability of so called productive finance of which equity is obviously a critical part.

“We have just got to keep going with this issue and the taskforce that we have got I can tell you is very much focused on sorting practical road blocks.

“There is a lot of focus on the defined contribution pension scheme world which in this country is a pretty small holder of equity.

“The question is how can you raise that proportion sensibly.”

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Asked if the UK’s Government economic levelling-up agenda needed to be assessed on its progress with clear measurable targets, he said: “My guess is that you will start to see that emerge actually. I think there is quite a lot of sensible dynamism behind this.”

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