'Resilient' inflation may hit interest rates

Published on Sunday 13 June 2010 21:39

A BANK of England policymaker yesterday signalled that UK interest rates may need to rise this year as worries persist over the "resilience" of inflation.

Andrew Sentance, part of the Bank's Monetary Policy Committee since 2006, said spare capacity left over by the recession had exerted little downward pressure on inflation so far.

Inflation stands at 3.7 per cent and is only expected to show a modest fall when figures for May are published by the Office for National Statistics tomorrow.

Interest rates were kept at a record low of 0.5 per cent at the MPC meeting last week, but Sentance questioned how long the Bank's "highly expansionary" policy will remain.

He said he expected "interesting debates" at MPC meetings in the second half of the year.

He said: "In late 2008 and through 2009, the MPC put in place a highly expansionary policy to offset the sharp contraction in demand driven by the financial crisis. However, the recovery in the economy and the resilience of inflation highlight the issue of how long such an expansionary policy will remain appropriate."

The Bank has been reluctant to raise interest rates because of the fragility of the economy and because of forthcoming tax rises and public spending cuts.

Governor Mervyn King said last month that he believes inflation will fall back to its 2 per cent target "within a year".

Sentance noted that since the start of 2008 inflation has averaged 3 per cent – above the Government's 2 per cent target and more than one percentage point above its average in the pre-recession period of growth.

External factors such as a volatile oil price have made control of inflation difficult, but Sentance said other countries were not seeing the same spike.

The OECD recently said the Bank should wait no longer than the final quarter of the year before acting. It expects interest rates to reach 3.5 per cent by the end of 2011.