Carney indicates interest rates may rise at 'turn of year'

Bank of England governor Mark Carney has indicated that UK interest rates could rise "at the turn of this year".

In a speech he said that he expected rates to rise over the next three years, reaching "about half as high as historical averages", or about 2%.

But he added that shocks to the economy could change the timing and the size of any rate rise.

Interest rates have been at 0.5% for six years as the UK economy recovers from the financial crisis.

The Monetary Policy Committee will "have to feel its way as it goes," Mr Carney said in a speech at Lincoln Cathedral.

'Proceed slowly'

He added: "Short term interest rates have averaged around 4.5% since around the Bank's inception three centuries ago.

"It would not seem unreasonable to me to expect that once normalisation begins, interest rate increases would proceed slowly and rise to a level in the medium term that is perhaps about half as high as historic averages.

"In my view, the decision as to when to start such a process of adjustment will likely come into sharper relief around the turn of this year," he said.

The UK inflation rate is currently at zero but as the effect of lower oil prices feeds through, it is expected to start edging higher.

The governor's comments come a day after unemployment rose for the first time in two years.

"That suggests the Bank's interpretation of those statistics is that unemployment falls are now being held back by skills shortages," said the BBC's economics editor Robert Peston.

"And those skills shortages are also responsible for rising wage inflation."

Mr Carney emphasised that the Bank would be monitoring the effect of any rate rise on household balance sheets.

Analysis: Robert Peston, BBC economics editor

For those of you with big debts looking for reassurance that you are not going to be financially crippled by the increase, Mark Carney has said two other things of note about the so-called Bank Rate.

First typical interest rate changes, increments, will be typically much smaller than the half of a percentage point that they used to be before the Crash of 2008 - so probably one quarter of a percentage point.

Also he has signalled that the new normal rate of interest over the medium term after a succession of rises over two or three years will be perhaps half the 4.5% over rate of the past 300 years. So nearer 2%.

Read Robert's blog in full here

On Tuesday, outgoing MPC member David Miles, regarded as someone who is cautious about the impact of a rise, surprised markets by saying it was "likely to be right" to hike rates soon.

Howard Archer, chief UK economist at IHS Global said that he was sticking to his forecast of the first rate rise coming in February 2016 but that he was "markedly less confident in this call".

He said that "there is clearly now a very real possibility that the MPC could act before the end of 2015".

But he added: "Regardless of whether the Bank of England first acts in late 2015 or early 2016, we see interest rates only rising to 1.25% by the end of 2016 and 2% by the end of 2017."

On Wednesday, Janet Yellen, the chair of the US's Federal Reserve indicated that interest rates are likely to rise in the US this year.