ANY QUOTES USED MUST BE ATTRIBUTED TO MURNAGHAN, SKY NEWS

DERMOT MURNAGHAN: Governor, welcome to the show.  I want to start first of all with the thorny issue I suppose of housing.  We know that there are different markets I suppose within the UK, the biggest of course is in London and the south-east, are you concerned a bubble is developing.

MARK CARNEY: Well we’re looking at – first off we make policy for the entire country so we look at housing markets across the country.  What we have seen in recent months has been a broadening of the recovery in the housing market across the country, that’s welcome.  The very low levels of transactions through the recession is just starting to pick up in some regions.  What we’re vigilant to, and we are vigilant about risk around the housing market, is to ensure that risks aren’t building up for the medium term, in other words that banks have enough capital when they underwrite these new mortgages and very importantly, that individuals who are taking out mortgages can afford those mortgages over the entire life of the mortgages.  We don’t want to build up another big debt overhang that is going to hurt individuals and is very much going to slow the economy in the medium term.

DM: So you have a range of tools, so to speak, at your disposal to deal with any concerns.  The last line of the fence then is putting up interest rates, what are those in between and have you or are you going to deploy them?

MARK CARNEY: Yes, well it’s the right question.  The first thing we did is to take our foot off the accelerator if you will, so at the end of last year we stopped subsidising if you will new mortgages through something called the Funding for Lending Scheme, we stopped subsidising capital for some institutions for mortgage lending.  We did those under extreme circumstances to get the market going.  We did two other things, the collective we, first we put in new underwriting standards for mortgages to make sure there is not the slippage in the terms under which banks extend mortgages to individuals.  They didn’t used to, for example, verify income prior to the crisis which is unwise at best and dangerous at worst.  Secondly what we’re doing is stress testing the banks.  We’re seeing how they would respond if house prices fell by a large amount.  That’s what we’ve done and what we’re doing.  We could do more, we could take steps around affordability to test whether or not individuals can test mortgages at much higher interest rates.  We could limit amounts of certain types of mortgages that banks could undertake, we could provide advice – the Chancellor has asked us if we would provide advice on changing the terms of Help to Buy – all those things are possibilities and we will consider them all.

DM: Well there are things, Help to Buy you just touched on it there, is the government not helping you by using Help to Buy?

MARK CARNEY: Well two things there, first Help to Buy, which is a government policy, was put in place for reasons of access to provide access to certain types of borrowers, mainly first time buyers who needed high loan to value mortgages in order to get on the property ladder.  It’s a pretty targeted programme, it’s a relatively small programme at this point but it could grow a lot and it could change attitudes in other parts of the mortgage market, that’s why we have to be vigilant. 

DM: But that’s the thing, in formal discussions perhaps with the Chancellor are you likely to say, well Mr Osborne it’s those high value to loan mortgages that we are most concerned about?

MARK CARNEY: We would be concerned if there were a rapid increase in high loan to value mortgages across the banks, so away from Help to Buy, if that were much more generalised and particularly if it were accompanied by very high loan to income ratios, we’ve seen that creeping up and it’s something we’re watching closely.  With respect to Help to Buy, we will provide advice to the government, we will do so publicly if we provide it, we’ll provide advice to the government if we think there should be changes to that.  The ultimate decision will be the decision of the government.  I would emphasise though that we do talk to the Treasury, I do talk to the Chancellor, we try to be as co-ordinated as possible in ensuring that there is a sustainable development in the housing market and that’s not in the short term, it’s for the medium term.

DM: Is there any forward guidance on this, we’ll talk about formal forward guidance so to speak a little later on but is there any forward guidance on this? You talked about income ratios, you’re keeping a close eye on them and there are round about, according to your charts, seven, seven and a half percent, pretty close to the peak level, if they hit eight or nine would that be the point at which you say we’ve got to move interest rates?

MARK CARNEY: It’s not a precise trigger and it partly depends on individual circumstances.   A first time buyer for example, if you’re lending at a higher loan to income ratio for a household, the couple is in their late 20s, early 30s, they have prospects of income increasing over their lifetime, you are going to have more comfort there than really stretching later in life as one example but we are looking at that.  The level of higher loan to income mortgages, ones above four and a half, five times loan to income, potentially could store up bigger problems for the future and we need to be careful, we need to be calibrated, we need to be proportionate, if we were to suggest some adjustments to the amount of these types of mortgages that banks should underwrite.

DM: Of course you know in the United States at the moment the big concern when it comes to so-called subprime lending is surrounding the auto market, the car market, can you see problems coming from other areas of consumer indebtedness?

MARK CARNEY: Well our mandate at the Bank of England is to watch all aspects of credit so we would include that as well as all aspects of the financial markets.  We’re really just starting to see broader consumer credit pick up, we haven’t seen that marked extension, deterioration if you will, of terms in auto lending in the UK as has been seen in the United States but it is something we watch closely.  I would go back to where you focused, when we look at domestic risk the biggest risk to financial stability, and therefore to the durability of the expansion, those risks centre in the housing market and that’s why we are focused on that.

DM: Some of these measures you tried in the country you left behind, there is pretty much a boom going on in Canada, are you in danger of having been the Governor in two countries that left behind them a housing boom?

MARK CARNEY: Well two things, first Canada, I left Canada at a time when inflation was at target and the Canadian economy was the best performing G7 economy.

DM: But the housing market is pretty choppy.

MARK CARNEY: The housing market in Canada in terms of valuation is about 50% less in terms of valuation matrix than the housing market in the United Kingdom so let’s focus on the United Kingdom.  The issues around the housing market in the United Kingdom, the longer term structural issues I think you know, there are not sufficient houses built in the UK.  To go back to Canada, there are half as many people in Canada as in the UK, the same number of houses are built every year in Canada – sorry, twice as many houses are built every year in Canada as in the UK, which just gives you a sense of the orders of magnitude of the supply problems.

DM: So that would help you out, build more houses.

MARK CARNEY: That would help us out.  We’re not going to build a single house at the Bank of England and we can’t influence that, what we can influence and we will do this as appropriate, is whether the banks are strong enough, do they have enough capital against risk in the housing market, are their  underwriting standards tough enough so that people can get mortgages if they can afford them but they can’t if they won’t and by reinforcing both of those we can reduce the risks that come from a housing market that has deep, deep structural problems.

DM: Could the government also help you out?  Another thing not in your control, fiscal measures.  Ed Balls, the Shadow Chancellor, is suggesting that to help cool particularly the London markets something like a mansion tax would help. 

MARK CARNEY: Well those are political decisions, they are fiscal measures and there are particularities in the London market, there is a very large cash market in London which has a heavy foreign purchaser element to it.  From our mandate’s perspective, those dynamics don’t cause risk to the British economy, they cause other issues that are political issues that are rightly addressed by the political authorities. 

DM: What are the risks, what are the external risks to the fairly rosy picture at the moment for inflation, for growth?  You’ve detailed them all but of course there is always the unknown and the known unknowns out there, there’s the eurozone, there are international crises maybe coming from Ukraine, what do you identify as the main risks?

MARK CARNEY: I would say three, this isn’t exhaustive but you mentioned the eurozone, now the eurozone has improved quite considerably so that the risk of a catastrophic outcome is not there at the moment but it is a very weak recovery in the eurozone and this is our major export market and the combination of weakness in the eurozone and strength of sterling creates real challenges for our exporters, that creates challenges for the balance of the recovery so that is one.  The second issue are broader risks in emerging markets, China, geopolitics, I group those together, the adjustment in the Chinese financial sector is considerable, that’s going to weigh on Chinese growth and that will have knock on effects.  The third risk which we’ve identified is that in financial markets as a whole, the level of volatility, a measure of risk but the level of volatility is very low across a wide range of asset classes.  That won’t be sustained as the recovery continues, at some point there is going to be an adjustment.  That adjustment could be quite sharp, that would tighten financial conditions and that would provide a new headwind for the recovery.  So what we’re trying to do in our small way to minimise that risk globally, make sure our banks are well capitalised first, secondly around policy to provide as much certainty as possible but no more certainty than we can provide.  As the recovery comes, as the expansion progresses, we can provide certainty for guidance on where we think the medium term path of interest rates is going to be, we’ve done that, limited gradual increases, very important for households and businesses to understand that but we can’t provide certainty about the exact timing of when we start that journey.

DM: Let me ask you about another feature of the fairly rosy picture.  As you say you’ve talked about the fact that it seems that real wages for a long time, for the first time for a long time, are going to outstrip inflation.  Does that mean that the cost of living crisis is over?

MARK CARNEY: Well it seems – you chose your words carefully, for the first time for a long time just about to begin to rise above the rate of inflation, so that’s a pretty low bar for an expansion.  We would expect to see sustained real wage growth over time, historically one expects to see something in the high threes, about 4% real wage growth, so … sorry, wage growth inflation 2%, you have the balance above that of real wage growth.  We are just at a point right now where basically earnings growth is matching inflation.  We expect it to pick up because we expect productivity to pick up, that needs to happen for the expansion to …

DM: So you see the cost of living crisis ending soon?

MARK CARNEY: We see real wages turning positive soon, that’s in our forecast. 

DM: Okay, you like your footballing analogies and you said in the quarterly inflation report that the economy was recovering and we are more or less in the group stages of the World Cup, that’s your goal, to entrench that recovery.  Now I’ve looked at the odds of England coming out of their group in the World Cup, it’s nine to four, two and a quarter to one, is that about the odds of this recovery being entrenched?

MARK CARNEY: Well I am more constructive on England’s odds but in terms of the economy, we have many of the elements in place for an expansion but we are in a tough group if you will, as England.

DM: So it’s about two to one against?

MARK CARNEY: England is in a tough group, I wouldn’t put it against.  It’s tough to win the World Cup, we have greater prospects of having a durable expansion but we’re in a tough group, to go back to the analogy.  The Italy equivalent is the fact that we have very weak demand abroad and we have persistent strength of the currency.  The Uruguay equivalent are risk in the housing market, even the Costa Rica equivalent is the issues around having real wages grow.  All of those elements have to be in place for this to be a durable recovery.

DM: Tell me, Governor, being in post I suppose coming up for a year now, what do you make of the Bank of England, your experience here, coming from to us a relatively new country in Canada to this institution, an institution that was probably lending money to the trappers that colonised Canada in the first place?  Have you found it a stuffy place or have you found it a place that’s in need of reform, just some of its internal structures?

MARK CARNEY: Well two things, one I haven’t found the first point, what I’ve found is a group of tremendously talented and energetic men and women who are dedicated to public service, exactly the type of people who you want in an institution like that.  With respect to reform though, there is a huge reform need here, because the Bank of England has been given all these new powers.  You rightly focused on issues around housing, well we didn’t have any responsibility, direct responsibility prior to the crisis for these types of risk.  As I emphasised, we can’t eliminate all those risks but we can address some of them and we do have the powers to do that.  We now have the ability to make sure the banks are resilient and safe, the insurance companies as well, so what we need to do is use all of these responsibilities in a way that’s co-ordinated, consistent, coherent, to help do our bit to deliver that expansion.

DM: But you are also aware of the responsibility I suppose of the Bank of England to represent the society which you’re in.  I went to the quarterly inflation report and I looked down the line and as you know five white males, Spencer, Charlie, Mark, you, Nils and Paul, that’s changing isn’t it?  Is that in part because you want to reflect the society that you exist in?

MARK CARNEY: We certainly do and as you know the MPC, we were representers of the MPC.  The MPC, Minouche Shafik is joining the bank as a Deputy Governor, will join the MPC, we will expect more women on the MPC over time but what we can directly affect is this institution, the MPC, members of the MPC and FPC, those are decisions of the government but what we can directly affect are the people we recruit, the people we develop, the people we promote and core to that reform of the Bank of England is a commitment to ensure that we reflect the diversity of the United Kingdom.

DM: So more women, more ethnic minorities?

MARK CARNEY: Without question.  We have specific plans to do so, from recruitment right through to development and we are making a series of changes to reflect that.  That, like many of our initiatives, has to be a medium term goal because they have to be sustained, this isn’t about a single headline, a single hire but it’s about a broad approach.

DM: And can I just ask you, when you took on the job you said you were going to explore the issue of becoming a British citizen yourself.  Are you continuing with that and if so, how’s it going?

MARK CARNEY: Well, in order to, I think the term the Prime Minister used was to take up my right to British citizenship, in order to do so there is a residency requirement.  That residency requirement …

DM: I think you’ve fulfilled that.

MARK CARNEY:  I haven’t.  I have lived in the UK for ten years previously but one needs to live here for five years in order to then start the process so I’m ten months in.

DM: Okay, but when you fulfil that residency requirement you will go through the lessons about the Magna Carta, Waterloo and all that?

MARK CARNEY: Yes, a big document. 

DM: Okay Governor, thank you very much indeed, good to see you.