The Bank of England could cut the interest rate it pays banks holding reserves with it to help nurture what it says will be a gradual economic recovery, Governor Mervyn King said on Tuesday.
The economy has probably started growing again but inflation risks are still to the downside, King told a parliamentary committee.
He also defended the work of the BoE Monetary Policy Committee (MPC) after criticism from former member David Blanchflower, who said King dominated it with his hawkish views on interest rates.
British interest rate futures rallied and sterling fell on Tuesday after King floated the idea of following Sweden and cutting the rate of interest it pays on commercial bank deposits in order to encourage more lending.
In Sweden the central bank has reduced the deposit rate for banks holding reserves with it to -0.25 per cent, encouraging the banks to keep money flowing in the markets — rather than held at the central bank with a negative interest rate.
"Of course people have talked about whether it would be sensible to reduce the rate at which … reserves are remunerated and it is something which we are looking at," King told parliament's Treasury Committee.
There has been concern the extra 175 billion pounds being pumped into the economy through the BoE's quantitative easing programme are being hoarded by banks rather than finding their way to struggling businesses.
SIGNS OF GROWTH
Britain, facing a general election by next June, is struggling to pull out of its deepest recession since World War Two. King said he saw some positive signs.
"Falls in output have broadly come to an end and we are beginning to see some very small signs of positive growth," King told parliament's Treasury Committee.
"It is important to remember that the very small positive growth rates or small falls in output in other countries in the second and possibly third quarter are really very small in comparison with a sharp fall in output that took place at the end of last year and beginning of this," he added.
King said there was a need for a very credible overall plan to make sure public finances were on a sound footing but added there was still time to do that.
Cutting debt and reining in a huge budget deficit are emerging as the central argument in the run-up to the election.
King took issue with comments in the New Statesman magazine last week in which former MPC member Blanchflower criticised him for ignoring his early warnings about looming recession last year.
King said Blanchflower's account did not coincide with his own recollections.
"… (Blanchflower) has chosen to make a statement of this kind and he is entitled to do this. I think it was unwise and not sensible for someone on the committee to do that."
Earlier, official data showed British consumer price inflation slowed less than expected in August as transport costs rose, partly offsetting a downward impact from utility bills and food prices. [ID:nLF386677]
Inflation has fallen more slowly in Britain than in other countries, but the Bank of England reckons the large amount of spare capacity built up during the recession will bear down on prices for some time to come and could push it even further below its 2 percent target.
