If they tighten, and the recovery seems to be falling short of the strong growth we need, we will consider carefully whether, and how best, to stimulate the recovery further. Our forward guidance was clear that, although we would not reduce the stimulus until the recovery is secure, we would if necessary provide more. Crossing the threshold to a healthy banking system Confidence that interest rates will stay low is a necessary step to securing the recovery, but it is not sufficient. The UK also needs a fit and healthy financial sector. It plays a vital role in generating services output in the UK, creating jobs and in exporting to the rest of the world. To serve the needs of the wider economy by extending credit to where it is needed, banks must command the confidence of their customers and investors. That is why a second element of the Bank of England’s strategy is to ensure that banks reach a clear threshold of good health. Some argue that the repair of banks’ balance sheets holds back economic recovery because it causes banks to cut back their lending. The reality is the opposite: where capital has been rebuilt and balance sheets repaired, banking systems and economies have prospered. US banks have added more to their capital base since the crisis and, as a result, have been able to provide more credit to their economy than UK banks have to ours. In the past two years, UK banks have reduced their lending to the real economy by 1%.
Specifically, we announced that we do not intend to raise Bank Rate at least until the unemployment rate falls to 7%, provided there are no material threats to either price or financial stability.1 All nine MPC members agreed to set monetary policy in future according to this framework of forward guidance. That does not mean Bank Rate will automatically rise when unemployment falls to 7%. Nor is 7% a target for the unemployment rate – it should ultimately fall well below that level. Before the Great Recession, the UK’s unemployment rate stood at just over 5%. The 7% threshold is instead a staging post along the road to recovery. When unemployment reaches 7% the MPC will reassess the state of the economy and the appropriate stance of monetary policy. Our forward guidance provides you with certainty that interest rates will not rise too soon. Exactly how long they stay low will depend on the progress of the recovery and in particular how quickly unemployment comes down. What matters is that rates won’t go up until jobs and incomes are really growing. The knowledge that interest rates will stay low until the recovery is well established should give greater confidence to households to spend responsibly and businesses to invest wisely. It may seem that unemployment doesn’t have far to fall, from the current 7.8% to the 7% threshold. The MPC’s central view, though, is that this could take some time – for three reasons.