Financial markets are at risk of becoming too complacent about the prospect of higher interest rates despite the unpredictable degree of disruption they could cause, the Bank of England has warned.
The Bank’s Financial Policy Committee (FPC) said the eventual transition from the current low rates that have helped support recovery “could pose challenges in some sectors of the financial markets”.
This would be particularly true if monetary policy in leading economies were forced to tighten “more abruptly than expected”, minutes of the FPC’s March meeting said. Changes in the way markets and banks now operate in the wake of the financial crisis “made it more difficult to judge the likely market impact of unexpected developments from any source”, the minutes added.
The FPC noted with concern that policy changes announced since its last meeting in November by central banks - that will start to see them remove stimulus measures that have underpinned economic recovery - had failed to shake investors.
These have included the abandonment of forward guidance linking interest rates to unemployment in the UK while in the US, quantitative easing pouring billions each month into the economy has started to be tapered.
Such changes “had not greatly affected financial markets” the FPC noted, with current low interest rates and stability continuing to underpin complex investment strategies.
“Members were concerned that this apparent resilience to past developments in advance economy monetary policy could reinforce risk appetite in a way that did not fully take account of the eventual transition of monetary policy to more normal settings,” the minutes said.
However, the FPC acknowledged that borrowing was lower than pre-crisis levels and investorswere aware that monetary policy would shift at some point in the future.
The committee also said it remained on alert over the housing market, with evidence of “increasing momentum” including house prices up 10% year-on-year and a record level of mortgages worth more than four times borrowers’ income.