A base rate rise is edging closer as the economy normalises to pre-credit crunch levels, governor of the Bank of England Mark Carney told delegates at the Annual Trades Union Congress in Liverpool this morning.
But Carney said the timing of the next rate rise still depends on the unemployment rate falling from 5.5% to below 5% while keeping CPI inflation below 2%.
And he added that average working hours should increase so the gap between actual and desired working hours is reduced by half.
Carney said: “With many of the conditions for the economy to normalise now met, the point at which interest rates also begin to normalise is getting closer.
“In recent months the judgement about precisely when to raise Bank Rate has become more balanced. We have no pre-set course, however; the timing will depend on the data.
“Moreover, the precise timing of the first rate rise is less important than our expectation that, when rates do begin to rise, those increases are likely to be gradual and limited.
“Rates will go up only as far and as fast as is consistent with price stability as part of a durable expansion, with the maximum sustainable level of employment.”
According to Carney the Bank kept base rates at 0.5% even when inflation fell below 2% due to the unemployment rate, as he described the recovery as “fragile”.
But he said: “The recovery has exceeded all expectations. It has momentum. There has been a sustained and sharp fall in the unemployment rate to 6.4%.
“Over 800,000 jobs have been created in the past year alone. We expect robust growth of 3.5% this year and 3% in 2015.
“The challenge now is to secure a durable expansion; to make sure the economy realises its full potential.”
He said there is still some slack in the labour market to be used up, while the increase in lower-skilled lower-wage jobs is a consequence of working off the labour supply shock.
Carney added: “Uncertainty does not mean stasis. You can expect interest rates to begin to increase.
“The exact path will depend on the economy. Our assessment will undoubtedly change as the economy evolves and policy will of course be adjusted if geopolitical events have a material impact on the outlook.
“If indicators suggest the economy is moving more slowly towards our goals, we will have learned that we are further from sustainable capacity.
“Prospective wage and unit labour cost growth will be weaker. Rates will go up later and more gradually.
“And should we see faster progress, prospective wage and unit labour cost growth will be stronger, which will suggest we are closer to maximum capacity and that the economy can sustain higher rates sooner.
“In all events, rate rises can be expected to be gradual and limited compared to the experience of the UK in the past.”
Calum Bennie, communications manager at Scottish Friendly, said: “Mark Carney has highlighted an important change in the labour market: that financial risk is shifting from employers to employees. This is particularly manifest in retirement provision, where changes in pensions are prompting people to work longer.
“Although disposable income appears to have flat lined, Britain needs to save more if it wants to provide financial freedom.
“Getting into a long-term savings habit can help provide security, regardless of whether the minimum wage is increased. The smallest of monthly contributions can make a difference; boosting protection and responsibility at the same time.”