That drags down the yield curve by an amount equal to the probability of recession multiplied by the lower interest rate bound. As recession probabilities dominate over medium-term horizons, so too does the magnetic attraction of the lower bound on the yield curve. There are plausible reasons why financial markets might currently be over-pricing recession risk, causing an excessive downdraught to the yield curve. Psychological scarring is one such explanation. Nonetheless, historical experience suggests these recessionary fears are  7  6  These probabilities are drawn from estimated distributions using data from interest rate options contracts. BIS central bankers’ speeches  not unreasonable. Those fears provide a plausible explanation for why interest rates are, and are expected to remain, resolutely stuck to their floor. Monetary policy implications Given these risks, what are the implications for monetary policy? Growth in the UK remains solid. Robust private sector demand has been a key contributor, with household consumption growing steadily for two years, largely funded by a pickup in real incomes. Despite some signs of slowing recently, business investment has also remained robust. We have seen a reasonable, and reasonably balanced, recovery. The forecasts for GDP and inflation contained in the Bank’s May Inflation Report envisaged these broad patterns continuing. Growth was expected to remain around its historical average rates over the next few years, while inflation was expected to rise from its current near-zero rates to reach 2% after two years.

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