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It's tough when you're yesterday's man. Sceptical eyebrows were raised when Mervyn King, the departing Bank of England governor, said on Wednesday that the U.K. is "set for recovery." The positive message looks like a warning to the incoming governor, Mark Carney. Believe it or not, policy is already working. Don't mess things up with excessive stimulus.
King was trying to correct the generalised U.K. gloom. His comment that most of the economy grew at "the steady, if unspectacular, rate of 1.2 per cent" in 2012 might have seemed like an example from "How to Lie with Statistics." Yet King was right.
The U.K. services sector, 77 per cent of GDP, grew by 1.2 per cent in both 2011 and 2012, and by 1.1 per cent in 2010. U.K. GDP may still be 1.2 per cent lower than its 2008 level but services output is now 1.9 per cent higher than in 2008. What held back the U.K. in 2012 was the construction sector. An unlikely to be repeated plunge of more than 9 per cent subtracted 0.7 percentage points from GDP. And manufacturing is struggling with weak European demand.
Investors ignored King's optimism. They focused instead on his enduring tolerance for relatively high inflation – and hit the pound. The Inflation Report that he was presenting forecasts that the inflation rate will still be above 2 per cent, the central bank's official target, in two years' time. King continued to show flexibility on just when that target should be met.
In last week's testimony to a U.K. parliamentary committee, Carney sounded still more tolerant of above-target inflation and much more impatient about growth. He used the exciting phrase "escape velocity" for economies seeking to exit crisis and said that output in the U.K. private sector is some 15 per cent below an extrapolation of its pre-crisis trend.
Carney seemed to imply that monetary policy could seek to make up that lost ground. But if it did so, where would inflation end up? By pointing to an already growing economy, King may be trying to curb his successor's enthusiasm – and seeking to ensure we don't find out.