The nation's central bank manager says fears about the UK's finances are overblown.
Giving answers to parliament's Treasury Committee on Tuesday, Mervyn King sounded just as you'd expect a bank manager would -- at least until the word 'banker' became synonymous with reckless gamblers who'd shun the golf club in favour of bungee jumping over alligator-infested waters.
The Governor of the Bank of England was calm, reassuring, and yes, a bit dull. Just what we need after two years of 'interesting times', as the Chinese put it.
Was there just the mildest hint of a gulp in King's throat when he admitted he'd had to write an open letter to the Chancellor -- his third -- to explain why inflation was 3.5%, far above the 2% target?
Perhaps, but let's put it down to professional pride. King seems confident the step-up in inflation is due to temporary factors: the re-rating of VAT, higher oil prices, and the weaker pound.
As he pointed out, just four months ago, inflation was under-target at 1.4%.
We all agree to disagree
Nothing to see here folks, move along?
Maybe not. For a start, King seems a tad optimistic about the establishment's ability to pull together to deal with Britain's largest peacetime fiscal deficit.
"I think it is very clear we have political consensus on the need for fiscal consolidation," he said.
Really? King presumably isn't a Times reader, or perhaps he only takes The Sunday Times. The two newspapers last week published rival letters signed by dozens of leading but opposing economists debating whether Britain should cut public spending sooner rather than later.
The ding-dong between Labour and the Conservatives on the issue doesn't exactly suggest peace and harmony, either -- then there's the wildcard of the Liberal Democrat's Vince Cable, who could conceivably become an economic policy adviser in a hung parliament.
Yet King is surely right to dismiss suggestions of a downgrade for the UK by the rating agencies.
For starters, he has to say that -- there'd be a run on gilts if he didn't.
Moreover, as he pointed out Britain is in a very different place to Greece.
"We have a very good track record in the past at meeting our obligations," King said. "We have our own currency which gives us greater freedom of manoeuvre and we also have a public debt which has a much longer maturity so that we are not faced with the same rollover refinancing problems which affect many other economies."
I agree. Control of our currency is a crucial difference between the UK and Greece, however much hedge fund managers who are trying to play dominos with the Eurozone economies mischievously suggest otherwise.
A long way to go
King does concede the ratings agencies will be expecting to hear "precisely how this deficit will be tackled" either in the next budget or after the general election.
But calling the debate about public spending 'overblown', he cautioned that even when the Government reveals more detailed plans to tackle our gargantuan borrowings, there'll be a lag before the effects follow through.
"You certainly can't eliminate the deficit in one year, there has to be a programme announced that will start and continue right through the lifetime of the next parliament," he said.
In the meantime, King and the committee stand ready to cut interest rates again or reinstate quantitative easing if the recovery falters -- or indeed raise rates or withdraw liquidity if the economy takes off.
Such uncertainty could persist for some time because the data is currently so volatile -- King even warned that the snowy weather in January would impair visibility (boom boom!)
Coping with the gilt
The good news? "The measures which we have taken, and the measures which other central banks have taken around the world, have all contributed to a reversal of that concern that we would see a re-run of the Great Depression," King said. "Those serious downside risks, I think, have now been eliminated."
The bad news is ongoing nervousness until at least the General Election, and perhaps beyond if no party wins a firm majority.
Gilts maturing in one year's time are yielding 0.7%, which means that with inflation at 3.5%, buyers face the prospect of losing money in real terms by hanging on to them. Clearly there are still a lot of nervy investors around who are seeking the security of UK government bonds, despite these low yields -- and they have faith that King can hold the line and stop short-term inflation rocketing.
On the other hand, at the longer end ten-year gilt yields have now moved decidedly above the 4% mark. The ten-year yield is now around 4.25%.
This steadily rising yield is not just down to inflation worries. Everything from the falling pound to doubts about the recovery and the public finances will be playing a part in the bond sell-off.
Still, anyone holding gilts must trust that King doesn't relish writing a fourth, fifth or even a tenth letter to the Chancellor in the next couple of years, for all his apparent calm this morning.
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