SIR Mervyn King’s hopes of handing over an orderly house to the next Bank of England governor will be dealt a blow this week by figures showing that inflation is on the rise again.
When the consumer prices index (CPI) fell to a near three-year low of 2.2 per cent in September, it looked like the Bank might finally have put behind it criticism that it had abandoned its 2 per cent inflation target in favour of measures to stimulate the ailing economy at all costs.
But price hikes by the major energy companies, coupled with the rising cost of food and this year’s almost tripling of university tuition fees for English students mean economists now believe that inflation will bounce back and continue rising into next year.
Philip Shaw, economist at Investec, said September’s figure would be as close as the Bank will get to hitting its 2 per cent target for quite some time. He is forecasting that Tuesday’s figures will show CPI jumped to 2.5 per cent in October, while the wider retail prices index measure will rise to 2.9 per cent, from 2.6 per cent the month before.
“Looking further ahead, our forecasts point to higher grain prices and a resumption of gas and electricity tariff increases dragging inflation further away from the target and we consider that CPI inflation could be as high as 3.5 per cent by mid-2013,” he added.
King is due to step down in June and will have been hoping that he won’t have to write to the Chancellor again to explain why inflation is more than 1 percentage point above target.
Howard Archer, chief UK and European economist at IHS Global Insight, believes inflation will fall back towards the Bank’s target in the second half of 2013. But he warns that higher prices will squeeze already stretched household incomes in the meantime, while unemployment and retail data also due out this week will highlight that the UK is “far from out of the economic woods” despite its robust return to growth in the third quarter of this year.
Most economists believe that the 1 per cent growth figure recorded in the three months to September flattered Britain’s economic performance because of a one-off boost from the London Olympics and a rebound from the second quarter, which was weakened by two extra public holidays.
Higher inflation makes it harder for the Bank’s monetary policy committee (MPC) to justify printing more money through its quantitative easing (QE) programme. The committee had access to the Bank’s own quarterly inflation report and forecasts, due to be published on Wednesday, when it decided to hold its fire at last week’s monthly meeting.
The report, and King’s comments when he presents it, will be scanned closely for clues as to whether the Bank is likely to take any more stimulative action over the coming months, and whether the MPC believes it is still an effective policy tool given that £375 billion has been spent already to questionable effect.
Another reason for holding fire in November may be the decision to give the Treasury billions of pounds in interest accrued on the gilts bought through the QE programme. Analysts at Citi say the move is roughly equivalent to a further £35bn of QE, plus £15bn a year thereafter.
The Bank’s gift means the UK government will probably hit key targets that previously appeared out of reach without further cuts to the public sector.