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THE City was wrong-footed again today by shock figures showing inflation remained stubbornly above expectations last month.
The Consumer Prices Index rate of inflation held steady at 1.8% in July, unchanged from June, confounding forecasts of a drop to 1.5%.
It caught the City by surprise and suggested its fears of a dangerous bout of deflation were overdone.
It also called into question the decision by the Bank of England to pump yet more money into the economy, to stop inflation falling too far below the 2% target.
The Bank extended its quantitative easing programme by £50 billion to £175 billion early this month.
Governor Mervyn King warned inflation will be “volatile” but added that it was “more likely than not” that it will fall below 1% this year.
Gordon Brown and Alistair Darling have also warned that deflation is a major threat to the economy.
But analysts at Credit Suisse said: “The UK economy may have many problems — deflation isn't one of them.” Although inflation remains on a downward path — it has fallen from 5.2% in September and looks set to hit 1% or lower in the coming months — its “stickiness” could mean the Bank is forced to withdraw the money it has pumped into the economy sooner than expected.
Economists also warned interest rates could start going up in early 2010 to bring inflation back under control should it start to rise sharply. Such a move could damage the economic recovery and plunge the UK back into recession.
David Page of Investec said: “The Bank will try to look through this temporary volatility. We envisage a subdued inflation background over the coming years. But we also expect the Bank to start tightening policy from early next year.”
The pound rose 1.07 cents against the US dollar to $1.6454, having tumbled yesterday.
Inflation was propped up by a rise in the price of toys, computer games and DVDs which offset the falling price of food and drink. The Retail Prices Index, which includes housing and mortgage costs, rose from minus 1.6% in June to minus 1.4% in July, again ahead of expectations but still deep in negative territory.
George Buckley of Deutsche Bank said: “Today's figures, by themselves, do not in our view warrant the removal of monetary stimulus more quickly than we currently believe. We see interest rate hikes from the third quarter next year. However, if inflation continues to surprise on the upside then an earlier move by the Bank of England could become a risk.”
However, James Knightley of ING said the Bank could pump even more money into the economy. “We suspect that inflation can fall to 1% over the next few months which suggests that the Bank could offer additional stimulus if the recovery proves to be more sluggish than hoped,” he said.
David Kern at the British Chambers of Commerce, said that calls for the Bank of England to slow its scheme of quantitative easing are premature. “Although these figures are higher than expected, they should not be used as a reason for withdrawing the stimulus,” he said.
Reader views (5)
The Government Scrappage Scheme is the daftest thing ever. It all goes back to the madness of the emission bands and Brown backdating them for older cars. The result was negative equity in these cars followed by people holding onto their old bangers instead of trading them in naturally. Plain stupid Brown. Now the government has to pay people to help them buy cars. Daft,
- Albert Hall, hove england, 28/09/2009 16:53
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The constant pretence that the path of the economy can be predicted to within fine limits has given economica a bad name.
Everything is in flux at the moment with people's expectations (and thus economic behaviour) rising and falling almost by the day. No one say what will happen except in very broad terms and perhaps barely that.
But humans like certainty about the future and there are too many people pretending they can provide it.
- Mike Newland, London, England, 28/09/2009 15:53
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Pumping money into the economy is one thing - what it`s actually being spent on is another.
One suspects that, apart from imported gas guzzlers (stupidly, fuel efficient small cars were not specifically targeted in the "scrappage" scheme) the items in demand are hinted at in Emma`s column in another article in this paper - shoes, unneccassary decorating, etc - not exactly belt tightening, is it, except for the saver and those who aren`t benefiting from low mortgage rates, or other benefit bribes given away to improve NuLabours chances of re-election next year.
At least this blip may lead to more realistic interest rates, which in turn will lead to less crazy house prices next year - which might give average earners and young couples the chance to buy their own house.
- Darius, London UK, 28/09/2009 15:53
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Crash Gordon has created a real mess with the economy. Save the world?! I guess not.
- Georgie, Islington, London, 28/09/2009 15:53
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Inflation and certainly wage inflation are the big time dangers now.
Everyone with a slashed mortgage should prepare for massive hikes from january onwards.
Result?- more deflation and and a steady increase in unemployment.
In addition, a new Government in the spring and if it is Conservative, large tax hikes into the bargain to pay for all the bail outs etc.
- William Grierson, Kimpton-UK, 28/09/2009 15:53
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