William Schomberg and David Milliken

LONDON (Reuters). -Bank of England policymaker Michael Saunders argued that inflation could exceed BoE forecasts of more than 10% last week and urged BoE members to not “lean heavily”.

Saunders, along with two members of the Monetary Policy Committee (nine), voted last week to increase the Bank Rate to 1.255%. This was despite the fact that the BoE has already seen price growth more than three times greater than 2%.

However, a majority (6 members) voted for a lower rise of 1.0% because they were worried about the signs of economic slowdown.

Saunders stated in speech that he placed “considerable weight” on the possibility that inflation pressures might be more severe and persistent than anticipated by the BoE.

At the Resolution Foundation think-tank, he stated that high inflation expectations should be discouraged by the BoE because it could lead to “very costly economic terms” if they are reanchored.

These key indicators of long-term price rise expectations were uncomfortablely high and fed into the overall pay growth and inflation in services.

Saunders acknowledged the concern of his coworkers and said that “the strength of external cost is eroding actual incomes”

These external costs increases can lead to an extended period of inflation above target. It could also increase inflation expectations. With the tight labor market it may be harder to keep domestic inflation pressures at a consistent pace.

The consumer price index in Britain rose 7.0% between March and April, which is a record for the country. Last week the BoE stated that the inflation rate was expected to reach more than 10% by the end of the year. This could lead to a severe economic slowdown, or even a recession.

Saunders warned of the danger that inflation would reduce the BoE’s ability for monetary policy to be relaxed during downturns.

He said, “That credibility cannot be taken as a given.”

Inflationary pressures have hit many countries around the world, but Britain has also been affected by the loss of the European Union’s single market and the fallout that it had caused to investment and productivity.

He said that the neutral interest rate, the rate at which the government does not stimulate nor restrain demand, could be anywhere from 1.25% up to 2.5%.

Saunders responded to a question following his speech. He said that financial markets had priced that range of Bank Rates over the next five year and that he believed that it was appropriate for the estimation of the neutral rate.

Saunders supported a 25-basis-point rise in March, but voted for an additional 50-basis-point rate increase last week and in February. According to him, his decision in May was driven by calmer financial market conditions.