(Updates with pound, bonds in sixth paragraph.)
Feb. 14 (Bloomberg) -- Bank of England Governor Mervyn King said policy makers added stimulus this month because they judged that there was a “downside” risk of inflation slowing too far beyond the 2 percent goal.
“The committee’s best collective judgment is that CPI inflation will continue to fall back to around the target by the end of 2012,” King said in a letter to Chancellor of the Exchequer George Osborne released by the central bank in London today. Officials decided this month that “in the absence of further policy action, the balance of risks around the inflation target in the medium term lay to the downside.”
King’s comments follow the publication of data showing that inflation slowed to the weakest in 14 months in January, and last week’s move by policy makers to pump another 50 billion pounds ($79 billion) into the economy. With inflation at 3.6 percent still exceeding the upper limit targeted by the central bank, the governor is obliged to write to the government explaining the deviation and what he will do about it.
“We will reevaluate the outlook for inflation and our policy stance every month,” King said. The Monetary Policy Committee “stands ready to react as necessary to changes in the balance of risks to the inflation outlook.”
King said that officials will “pay particular attention” to the outlook for the euro-region economy, and implications for the banking system and credit conditions, while also monitoring spare capacity in the economy and inflation expectations. Moody’s Investors Service said late yesterday it may strip the U.K. of its top credit rating, citing risks from Europe’s debt crisis.
The pound was little changed against the dollar from yesterday, and traded at $1.5763 as of 10:32 a.m. in London. It earlier fell as much as 0.5 percent. Bonds were also little changed, with the yield on the 10-year gilt at 2.13 percent.
King will release new economic growth and inflation projections at a press conference in London tomorrow. In November, the central bank forecast that consumer-price growth would slow to 1.7 percent by the end of this year, below its 2 percent target.
“Growth remains weak and unemployment is high,” he said in the letter. While inflation will slow further, “the pace and extent” remains “highly uncertain.”
The slowdown in inflation in January was partly driven by the unwinding of a sales-tax increase by the government in January 2011. Consumer prices fell 0.5 percent from December, according to the report. Prices for food and non-alcoholic drink declined 0.4 percent, while costs for clothing and shoes plunged 4.9 percent.
Core annual inflation, which excludes alcohol, food, tobacco and energy prices, slowed to 2.6 percent in January from 3 percent in December. Retail-price inflation, a measure used in wage negotiations, eased to 3.9 percent from 4.8 percent, the weakest since February 2010. The retail-price index excluding mortgage-interest payments rose an annual 4 percent, down from 5 percent.
King also said that policy makers can only achieve so much through their actions.
“The unwelcome combination of sluggish growth and high inflation over the past two years is a reflection of the need for the economy to rebalance,” he said. “There is a limit to what monetary policy can achieve when real adjustments are required.”
Osborne said in a letter replying to King that “monetary policy has a critical role in supporting this rebalancing” and “it is the first line of defense in the face of economic shocks.”
--Editors: Fergal O’Brien, Simone Meier
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