it is likely to persist and what policy should seek to do about it. but before turning to those topics, let me say a few words about the headwinds that still confront us on the demand side of the economy. to begin with, this was not a typical downturn and we should not anticipate a typical recovery. after normal cyclical downturns, economies typically return to the previous trend growth path within a few years. but after financial crises, economies often take much longer to recover. indeed, the evidence suggests that output typically stays well below a continuation of the previous growth path for many years thereafter. for instance, a study by the imf 2 found that across 88 past crises, output per head was, on average about 10 % below such a path fully seven years after the onset of the crisis, though there is considerable heterogeneity in the experience of individual countries ( chart 1 ). unless crises are also associated with an equivalent impairment of supply capacity, that implies an increase in the margin of unused resources. http : / / www. bankofengland. co. uk / publications / speeches / 2008 / speech342. pdf imf world economic outlook, october 2009. bis central bankers ’ speeches the primary reason for such a slow recovery is that the unwinding of earlier financial excesses takes time. moreover, banking crises are also frequently associated with a subsequent deterioration of the public finances, as governments provide support to vulnerable financial institutions and tax revenues drop back. both these features are, of course, present today in many of the advanced economies, including in the united kingdom. uk banks have made considerable progress over the past year in improving their balance sheet positions, but funding costs remain elevated and over the next two years they face the challenge of replacing around £400 billion of maturing wholesale funding. credit availability to larger corporates has improved significantly, but small and medium - sized enterprises still face difficulties in securing affordable credit. as a result, conditions in the banking sector are likely to continue to act as a brake on the recovery. as far as the public finances go, the public deficit widened sharply in the wake of the recession, reaching more than 11 % of gdp in 2009 / 10, in large part reflecting the endogenous response of spending and revenues to the downturn in activity. action would be needed to address such an unsustainable deficit, unless an early resumption of the pre - crisis growth path is expected. as

to 13 percentage points. since the “ excess ” inflation relative to the 2 % target is a little over 5 percentage points, that suggests that, in practice, we have ended up accommodating around half the impact of the shocks on inflation. in terms of the outlook, a key issue that the committee faces in deciding the appropriate stance of policy is the extent to which the current elevated levels of inflation will persist into the medium term. our most recent projections, conditioned on market interest rates, existing fiscal plans and the futures prices of commodities, are shown in chart 10. the central view is for inflation is to rise further in the near term as recent commodity price increases pass through, but then to fall back, particularly in 2012 as the rise in vat to 20 % drops out of the twelve - month comparison. it then continues to ease back, reflecting the continuing – though uncertain – drag from the margin of spare capacity in the economy. a number of factors will determine the rapidity of that return to target. profit margins have been squeezed during the recession and businesses are likely to want to rebuild these as the recovery proceeds. but the real purchasing power of wages has also been severely squeezed and employees may also seek to recoup some of that. ultimately this is about how the costs of the recession and the deterioration in the terms of trade associated with higher real import costs are shared out 7, but during the adjustment phase it may be manifested in temporarily higher wage and price inflation. consistently above - target inflation, whatever its cause, may also lead people to believe that it will remain high in the future. that in turn may lead them to set higher wages and prices to compensate and thus to the elevated level of inflation persisting. measures of inflation expectations for the year ahead, for both households and businesses, have moved upwards, though no more than one would expect given the outlook for inflation ( chart 11 ). measures of inflation expectations further ahead, which might be more indicative of a fundamental shift in perceptions of the inflation climate, have though mostly remained well anchored ( chart 12 ). but this is something we are watching closely, in particular for any signs that higher inflation expectations are leading businesses to raise pay and prices. there are elements of all these mechanisms present in our latest projections, but there is a risk that they will turn out to be more powerful than in our central view. and, as noted earlier, there is the risk of further increases in the prices of commodities, especially that of oil