begun to side somewhat tentatively with the optimists ; but some of the survey evidence of consumer and business confidence, on the other hand, supports a more pessimistic view. the truth is that none of us knows with any great confidence just how the us situation will evolve. for what it is worth i remain modestly optimistic, but i am very conscious of the downside risks. the outcome is obviously the major uncertainty affecting us all. the other major external influence on the economic situation in this country is the development of the exchange rate. depending on who you speak to sterling is variously described as dangerously weak, at a 15 - year low, against the dollar, or as unsustainably strong, close to its peak, against the euro. the truth is that sterling's effective exchange rate has been relatively stable for most of the past 2 ½ years – at about 105 on the standard index, plus or minus 5 %. the bilateral rates that are frequently quoted in fact tell us very little about sterling : they are essentially a reflection of the persistent general strength of the dollar on the one hand and the persistent general weakness of the euro on the other, resulting from sustained capital inflows to the united states in large part from the eurozone. it was widely expected that, with the slowdown in the us economy, and associated weakening of us earnings expectations and stock prices, these capital flows would moderate, causing the dollar to weaken and a corresponding recovery in the euro. that clearly has not, yet, occurred, although – given the size of the us external imbalance – it is difficult to see how an exchange rate adjustment can ultimately be avoided. in the meantime, the stronger dollar – and higher oil prices – have added to inflationary pressures elsewhere. but in our own case this effect has been offset by the weakness of the euro – or by sterling's bilateral strength against the euro, if you prefer – which has dampened both external demand and our domestic price level. the result of these external developments – the global economic slowdown and the pattern of exchange rates taken together – for us has been that, notwithstanding only a rather modest slowdown of our overall economy, we have continued to see a growing imbalance between the internationally - exposed ( particularly the euro - exposed ) sectors, which have been having a rather torrid time, and the more heavily domestically - oriented sectors, which have been doing rather better. the weakness of manufacturing alongside continuing growth in the services sectors is

projection of the level of gdp based on market interest rate expectations and £200bn asset purchases chart 6 : cpi inflation projection based on market interest rate projections and £200bn asset purchases chart 7 : household saving ratio ( a ) chart 8 : survey measures of capacity utilisation ( a ) percentage of household post - tax income. sources : bank of england, bcc, cbi, cbi / pwc and ons. ( a ) three measures are produced by weighting together surveys from the bank ’ s regional agents ( manufacturing and services ), the bcc ( manufacturing and services ) and the cbi ( manufacturing, financial services, business / consumer services, distributive trades ) using shares in nominal value added. the bcc data are non seasonally adjusted. chart 9 : credit and finance as a constraint on output ( a ) chart 10 : cpi and households ’ inflation expectations for the year ahead, scaled to match cpi inflation ( a ) ( b ) sources : cbi and ons. sources : bank of england, barclays capital, citigroup, gfk nop, research carried out by gfk nop on behalf of the european commission, ons and yougov. ( a ) this measure is produced by weighting together balances for the manufacturing sector and the consumer / business service sector using shares in nominal value added. manufacturing companies are asked : ‘ what factors are likely to limit output over the next three months? ’. service sector companies are asked : ‘ what factors are likely to limit your ability to increase the level of business over the next twelve months? ’. ( a ) survey - based measures ( apart from gfk nop ) have been scaled to have the same mean as cpi inflation over a comparable period. ( b ) the questions ask about expected changes in prices over the next twelve months, but do not reference a specific price index. all measures are based on the median estimated price change, except gfk nop which captures the weighted net balance expecting prices to increase. chart 11a : options - implied weight on falling consumer prices 5 - 7 years ahead per cent us cpi < 0 % chart 11b : options - implied weight on inflation rising by more than 5 %, 5 - 7 years ahead per cent us cpi > 5 % uk cpi < 0 % * ea cpi < 0 % ea cpi > 5 % uk cpi > 5 % * nov feb may aug nov feb may aug nov feb nov feb may