Bank of England Governor Mervyn King said on Tuesday that the central bank had scope to give the economy another cash boost if needed as inflation is falling and Britain faces an arduous, long and uneven economic recovery.
In his first keynote speech of the year, King warned that the global economy looked set to slow and that the position of the euro area in particular was serious, echoing the International Monetary Fund, which said the euro crisis threatened to push the world into recession.
Starting from a position of excessively leveraged balance sheets, the path of recovery is likely to be arduous, long and uneven, King said, according to the text of the speech he gives on Tuesday evening in the seaside town of Brighton in southern England.
King also urged business leaders to keep pay in line with what the public considered fair in order to avoid a backlash against the market economy.
The BoE governor has long held one of the gloomiest views of Britain's economy among the nine officials on the Monetary Policy Committee, though all voted in October to launch a fresh 75 billion pound round of quantitative easing to fight recession risks.
Britain's economy may already be slipping into recession, with growth data due on Wednesday expected to show a fall in fourth-quarter output. Many economists expect the central bank to respond with more stimulus in February, when October's round of QE asset purchases is complete.
King said the central bank had helped Britain's economy to deal with the aftermath of the slump caused by the financial crisis debt pile-up by keeping interest rates at a record low 0.5 percent and conducting nearly 275 billion pounds of QE.
With inflation falling back and wage growth subdued, there is scope for interest rates to remain low, and, if necessary, for further asset purchases to prevent inflation falling below the 2 percent target, King said.
Inflation looked set to continue to fall throughout 2012, unless commodity prices rise again, King said, adding that the main risks stemmed from the tensions over Iran.
The BoE governor noted a recent improvement in market sentiment, but warned that 2012 would not be an easy year.
The global economy was slowing despite some encouraging signs out of the United States as growth in large emerging countries slowed and austerity in the debt-ridden euro zone periphery dragged the whole euro area down.
King warned that the euro crisis continued to raise British banks' funding costs, hurting their ability to lend to businesses and consumers, and weighing on the recovery.
But banks should keep building up capital without cutting back lending by limiting distributions of profits to employees and shareholders, King said.
The central bank governor, who has sharply criticised bankers' behaviour in the past, warned that public support for free markets was at stake.
The legitimacy of a market economy will inevitably be challenged if rewards go disproportionately to a small elite, especially one which benefited from the support of taxpayers, he said.
Those taking decisions on remuneration, in the financial sector and elsewhere, need to understand that a market economy rests not just on incentives, but on the acceptance that the distribution of rewards is fair, he added.
Big bonus payouts at Britain's banks, and large pay rises for bosses at other firms, have sparked a public and political backlash over perceived excesses in executive pay at a time when the economy is stalling and many workers are enduring negligible pay rises.
The Conservative-Liberal Democrat coalition has pledged to clamp down on out of control pay although ministers are wary of pushing too far for fear of driving talent away from Britain's top companies.(Reporting by Sven Egenter; Editing by Hugh Lawson)