LONDON – Monetary policy cannot prop up Britain's economy forever, and export-driven growth will be hard to achieve at a time when much of the rest of the world is pursuing the same strategy, BoE Governor Mervyn King said on Tuesday.
The Bank of England has bought almost 375 billion pounds ($600 billion) of government bonds to support the UK economy after the worst financial crisis since the 1930s, and King said there was no immediate barrier to stop it doing more.
But ultimately policymakers could not be "entirely sanguine" about using loose monetary to bring forward economic demand indefinitely, King said in a question and answer session after a speech at the London School of Economics.
"There is no technical limit on the asset purchases ... (but) I think there is a deeper question about whether there are limits to what monetary policy as such can do."
King added that the immediate consequence of this for BoE policy was not clear, and most economists expect the central bank to approve more stimulus at November's meeting.
In the past, King has said Britain's economy faces a slow readjustment to a more export-oriented economy - even if loose monetary policy can ease some of the pain - and on Tuesday he said this was made harder by the fact that other countries were trying to do the same.
King travels to the International Monetary Fund's annual meeting in Tokyo on Wednesday, and he said that he wanted to bring up the issue of global imbalances between countries with trade surpluses and deficits when he was there.
"It's still the case that there are significant imbalances, particularly within the euro area, but also in other parts of the world economy," he said. "The strategy of reducing domestic spending and relying more on external demand is facing a real problem because not everyone can do it at the same time."
In his speech, King also said the current difficulties resolving Europe's economic problems bore a comparison with the disputes in the 1920s over German war reparations that was "too poignant to dwell on".
Most of King's speech focused on inflation targeting and whether British monetary policy should have been tighter before the crisis.
So-called macroprudential regulatory tools - of the type that the BoE is now getting its hands on - would be the main line of defense against a future crisis, for example by putting a limit on banks' leverage, King said. Macroprudential regulation seeks to prevent a financial crisis by regulating the banking systems rather than individual banks.
But on their own they may not be enough, and future interest rates may have to be set higher than would be needed purely to keep inflation close to the bank's 2 percent target, he added.
"It would be sensible to recognize that there may be circumstances in which it is justified to aim off the inflation target for a while in order to moderate the risk of financial crises," King said.
The BoE governor concluded that higher interest rates in Britain would probably not have been enough to prevent the financial crisis that hit the country hard.
"Much of this was outside the control of UK policymakers and reflected developments in the world economy," he said.
Some economists and parts of the media have criticized the Bank of England for keeping monetary policy too loose in the run up to the crisis, fuelling a credit and house price bubble.
However, financial markets believe the BoE is highly unlikely to raise interest rates from their record low of 0.5 percent before then.
The International Monetary Fund on Monday sharply downgraded its forecasts for the UK economy to a contraction of 0.4 percent this year and tepid growth of 1.1 percent in 2013, and King said he expected "a slow gradual recovery".
A mix of government austerity, the crisis in parts of the euro zone and an overhang of indebtedness from before the global financial crisis are weighing on Britain's prospects, according to the IMF.
($1 = 0.6251 British pounds)
(Reporting by David Milliken and Sven Egenter; Editing by Michael Roddy)