Bank of England governor Mark Carney yesterday dampened expectations of an interest rate hike coming before the end of this year as he raised the prospect of inflation falling below zero again.
The pound dropped by a cent against the US dollar and the euro after the Bank’s quarterly inflation report signalled that rates will remain on hold until early 2016.
It came as the Bank’s Monetary Policy Committee (MPC) voted 8-1 to leave interest rates on hold this month at 0.5 per cent, where they have remained for more than six years.
A single dissenter, Ian McCafferty, voted to raise rates to 0.75 per cent, in the first split vote since the end of 2014, though experts had been expecting a larger revolt, with two or more policy-makers calling for a hike. But a plunge in oil prices and the sharp recent strengthening of the pound means inflation, which has hovered at around zero, looks likely to remain at that level for the rest of 2015, leaving most MPC members in no rush to raise rates.
Mr Carney said the fall in inflation – which dipped below zero briefly earlier this year – had been “the most striking development in the UK in the past year”.
The Bank forecasts the Consumer Price Index (CPI) measure of inflation at zero for July and August before edging up slightly in September, though allows for a margin of error slightly above or below its predictions.
Mr Carney said: “The near-term outlook for inflation is muted and the fall in energy prices over the past few months will continue to bear down on inflation until at least the middle of next year.
“I wouldn’t be surprised if we have another month or two of negative inflation given the very substantial move in oil prices and the changes in utility prices.”
Oil prices have halved since last year amid a glut of supply and after starting to recover have recently been pulled back again with more crude expected to flood into the market from Iran with the lifting of sanctions after it reached agreement with the US over its nuclear programme.
In the UK, two consecutive 5 per cent cuts in household bills by leading energy supplier British Gas are also likely to weigh on inflation. Meanwhile, the strong pound – up by 20 per cent since March 2013 including a sharp rise recently – making imports cheaper should also pull down the CPI.
Together it means that households are likely to enjoy another few months of low interest rates keeping mortgage costs down while the cost of living remains flat and wage packets increase – with the Bank hiking its forecast for pay growth this year from 2.5 per cent to 3 per cent. It also increased the forecast for expansion in the wider economy, from 2.5 per cent to 2.8 per cent amid strong consumer demand.
The Bank of England sets its interest policy to target inflation at 2 per cent over the next couple of years and will start to increase interest rates if it sees a risk of it being pushed higher over the period.
Mr Carney indicated that the aim was to be able to benefit from a flat cost of living.