In an eagerly anticipated move, Carney said during his inaugural inflation report press conference that the BoE would not consider raising interest rates until the unemployment rate has fallen to 7% or below.
Carney said he expected this would require the creation of about 750,000 jobs and could take three years. The UK unemployment rate stands at 7.8%.
“It is now more important than ever for the Monetary Policy Committee (MPC) to be clear and transparent about how it will set monetary policy in order to avoid an unwarranted tightening in interest rate expectations as the recovery gathers strength,” said Carney.
“That is why the MPC is today announcing explicit state-contingent forward guidance.”
Few issues have been more topical in the world of central banking than forward guidance in recent months, with the European Central Bank and the BoE seeing it as a powerful new weapon in their arsenal.
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ECB president Mario Draghi said in July: “The governing council has taken the unprecedented step of giving forward guidance in a rather more specific way than it ever has done in the past.” By pledging to keep interest rates low, central banks are supposedly able to kill two birds with one stone: monetary policy can be loosened further and the longer end of the curve remains well anchored.
Both factors, it is hoped, will then help to stimulate the economy.
Besides official policy statements, forward guidance comes in various forms. The most interesting way of classifying it was given last year in the paper Macroeconomic Effects of FOMC Forward Guidance.
Its authors – Jeffrey Campbell, Charles Evans, Jonas Fisher and Alejandro Justiniano – distinguish between “Odyssean” and “Delphic” forward guidance.
For Odyssean – a reference to Odysseus, Greek king of Ithaca – central banks signal their strong commitment towards a different behaviour, in effect tying themselves to the mast as Odysseus did when he was passed the land of the sirens by ship.
Central banks therefore promise to keep the policy rate at the zero lower bound for a longer period than signalled by traditional reaction function.
Alternatively, Delphic – derived from the oracle of Delphi – is a softer and less-binding version of forward guidance. Central banks try to guide expectations of market participants about the future policy path.
Among the main central banks, Delphic forward guidance dominates, although there are a couple of exceptions such as the US Federal Reserve, which makes quite specific but still conditional statements, and the Bank of Japan.
For Carney and the BoE, it appear s they are taking the softer Delphic approach too.