(Updates with comment from economist in sixth paragraph.)
Nov. 16 (Bloomberg) -- Bank of England Governor Mervyn King said Britain faces a “markedly weaker” outlook for economic growth and persistent danger from Europe’s debt crisis, as policy makers signaled they may need to expand stimulus further.
“Despite the easier monetary stance, growth over the next few quarters is likely to be markedly weaker than in the August projection” and may be “broadly flat” in the first half of 2012, King told reporters in London today as he presented the quarterly Inflation Report. “There is no meaningful way to quantify the most extreme outcomes associated with developments in the euro area.”
The Bank of England is in the second month of a program of bond purchases aimed at shielding the U.K. economy from the fallout from the euro region’s sovereign debt crisis. Policy makers said today that failure by European officials to resolve the turmoil could lead to “significant adverse effects” on the global economy.
The central bank said in its report that “prospects for the U.K. have worsened.” Based on the current bond-program target remaining at 275 billion pounds ($433 billion), officials forecast that inflation may slow below the 2 percent target in two years, signaling that they may need to increase the stimulus plan.
U.K. 10-year gilts rose after the release of the report, with the benchmark generic bond yield of that maturity trading down 2 basis points at 2.13 percent as of 12:18 p.m. in London. The pound slipped 0.2 percent to $1.5798.
Simon Hayes, chief U.K. economist at Barclays Capital in London, said the Bank of England’s comments are a “clear signal,” and he expects an expansion of at least 50 billion pounds, “most likely” in February. The central bank raised the target for purchases by 75 billion pounds in October.
“Further increases may well be announced subsequently unless the demand outlook improves or inflation proves to be stickier than currently expected,” Hayes said.
The central bank sees inflation at about 1.5 percent in two years, according to today’s report. It sees annual gross- domestic-product growth at about 3.1 percent. At its trough in mid-2012, annual economic growth will be about 0.9 percent. The forecasts were published in the form of fan charts and the data underlying the charts will be released next week.
‘More Stimulus, Earlier’
The projections are based on the bond-purchase target staying at the level set in October and market expectations for interest rates. Those don’t show a rate increase fully priced in until 2014. The benchmark rate is currently 0.5 percent.
King said that policy makers are not currently considering alternatives to gilts in its asset-purchase program and that government bonds would remain the focus of any expansion.
“The near-term policy signal is that further QE purchases are more likely than not” and the forecast “indicates that the risks are skewed to more stimulus, earlier,” economists Ross Walker and Richard Barwell at Royal Bank of Scotland Group Plc in London wrote in a note to investors.
When it expanded so-called quantitative easing in October, King cited strains in financial markets. The central bank said today that “although banks have faced difficulties in obtaining funding, that is likely to have happened too recently” to impact credit availability. “If they persist, the strains in bank-funding markets may lead to a contraction in the supply of bank credit,” it said.
Danger to U.K.
Europe’s debt turmoil has spread to Italy, sending its bond yields to a level that led Greece, Ireland and Portugal to seek bailouts. While the region’s leaders agreed on Oct. 26 to beef up the region’s rescue fund, they have yet to flesh out details of the plan.
“Implementation of a credible and effective policy response in the euro area would help to reduce uncertainty,” the Bank of England said. “Its absence poses the single biggest risk to the domestic recovery.”
President Barack Obama also pressed European leaders to resolve the crisis today.
“‘I’m deeply concerned, have been deeply concerned,” Obama said in Canberra today. “I suspect will be deeply concerned tomorrow and next week and the week after that.”
King told reporters that Britain’s banking system is “much healthier” than in many parts of the euro region. The U.K. Treasury said in a statement that it is doing all it can to protect Britain and ensure it is regarded as a “safe haven” by investors.
In addition to the euro crisis, which is hampering growth in Britain’s biggest trading partner, the U.K. recovery is being restrained by the government’s fiscal squeeze, the biggest since World War II. King today reiterated his backing for Prime Minister David Cameron’s deficit-cutting plan, saying it was “exactly what one would think of as the right macroeconomic response.”
Britain’s economic growth accelerated to 0.5 percent in the third quarter from 0.1 percent in the previous three months. Still, recent data indicate that pace of expansion may not be maintained. Surveys this month showed manufacturing output shrank in October and services growth cooled, while data today showed unemployment rose in the three months through September as joblessness among young people climbed above 1 million for the first time since at least 1992.
The European Commission cut its forecasts for the U.K. economy on Nov. 10 and said there’s a risk of “at least” one quarter of contraction. Gross domestic product will increase 0.7 percent this year and 0.6 percent in 2012, the Brussels-based commission said, compared with earlier forecasts of 1.1 percent and 2.1 percent respectively. It predicted the economy will grow 1.5 percent in 2013.
“Despite all the criticism aimed at the Bank of England, it is to a large extent a prisoner of circumstances,” said Peter Dixon, an economist at Commerzbank AG in London. “It cannot be expected to conjure up a recovery in activity in the face of headwinds from the euro zone and from domestic fiscal tightening.”
--With assistance from Matthew Brown, Svenja O’Donnell, Scott Hamilton and Mark Evans in London. Editors: Fergal O’Brien, Andrew Atkinson
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