Inflation to fall close to Bank's 2% target

Published on Saturday 16 May 2009 14:21

INFLATION is expected to come within a whisker of the Bank of England's 2 per cent target when the latest figures are revealed this week.

The Consumer Prices Index (CPI), to be published on Tuesday, will show that inflation has continued its downward spiral with economists predicting it could reach 0.5 per cent by September.

The CPI is tipped to hit a 15-month low of 2.4 per cent from 2.9 per cent as it comes under pressure from lower energy prices in particular.

Although many economists believe the UK will now avoid the threat of deflation, it is expected the CPI will continue to suffer dramatic falls over the summer, falling just short of 0 per cent by the autumn.

According to Richard Dingwall-Smith, chief economist at Scottish Widows Investment Partnership (SWIP), inflation is likely to remain well below the Bank's 2 per cent target until early next year when the reintroduction of the 17.5 per cent VAT rate could push prices back up slightly.

"That could push inflation up above 2 per cent for a time," he said.

Earlier this year there had been fears that the Bank of England's decision to pump more money into the system via quantitative easing could spark a hike in inflation, causing difficulties for businesses and homeowners which would be hit by rising prices during a period of depressed economic activity.

But Dingwall-Smith said the full effects of quantitative easing on inflation are unlikely to come clear until 2012. "It's more of a worry three to five years ahead."

Last week Bank of England governor Mervyn King signalled that the Monetary Policy Committee is preparing for inflation to remain below its 2 per cent target over the medium term.

He warned that economic recovery in Britain would be gradual: "The economy will eventually heal, but the process may be slow."

Howard Archer, chief UK and European economist at IHS Global Insight, expects the Bank's Monetary Policy Committee to hold interest rates at their historic low of 0.5 per cent well into 2010. "Further quantitative easing is very possible," he said.