Good news for coalition as inflation figures fall sharply

Published on Tuesday 15 June 2010 22:46

THE coalition government received its first good news on the economy yesterday when it emerged that inflation fell significantly in May.

• Prime Minister David Cameron buys the first rose to launch the Alexandra Rose Annual Collections, outside 10 Downing Street. Picture: Getty

The Office of National Statistics (ONS) reported that the Consumer Price Index (CPI) put inflation at 3.4 per cent down 0.3 per cent from the month before and lower than the 3.5 per cent expected by the City.

This was despite a rise in average petrol prices of 0.3p to 120.5p in the same month and the fall puts the economy on target for reaching the Bank of England's goal of holding inflation at 2 per cent.

The fall came in contrast to gloomy reports from the government over the state of the economy the Tory/Lib Dem coalition has inherited from Labour.

On Monday it was revealed that growth would be 0.5 per cent less next year than originally predicted by the former chancellor Alistair Darling.

And, in a speech last week, Prime Minister David Cameron warned that the books were "much worse than expected" which would lead to severe cuts, even though debt was at 155 billion, 30bn less than forecast a year before.

Inflation has been above the Bank of England's 2 per cent target since last November, but yesterday's slightly bigger than expected fall may go some way to soothing nerves on the Bank's rate-setting committee over rising prices and appeared to calm nerves in the City.

Jonathan Loynes, chief European economist at Capital Economics, said the inflation figures were a "pleasant surprise".

He added: "Overall, inflation worries are not about to disappear overnight. But there is some reassurance here that the (Bank's] monetary policy committee will be able to avoid the nightmare scenario of having to raise interest rates alongside the huge fiscal squeeze."

The Bank of England's latest survey on inflation attitudes last week showed average expectations for the year ahead put the cost of living at 3.3 per cent – up from 2.5 per cent in February.

Governor Mervyn King has said the CPI should fall back to the Bank's target within a year as a weak recovery drags down prices, although further pressure could come as soon as next week if Chancellor George Osborne elects to raise VAT in the emergency Budget.

The ONS said other factors behind the CPI fall included falling food prices against rises a year earlier, with meat and fruit cheaper this year.

Alcohol and tobacco duty rises, meanwhile, came into force in May last year due to a later Budget, although this time around the effects of the Budget were felt in April rather than in the May figures, the ONS added.

This downward drag on the CPI more than offset the inflationary impact of unchanged gas and electricity bills this time around compared with price cuts 12 months earlier.

It was also clear that the question of inflation would form the back-drop to a row brewing with the unions on pensions.

Deputy Prime Minister Nick Clegg earlier this week made it clear that "gold-plated" public-sector pensions were unfair and needed reforming.

But yesterday TUC general secretary Brendan Barber said: "Ministers are presenting the costs of public-sector pensions in a highly selective way. They have not been clear that a main cause of the increased net cost of public-sector pensions is their decision to freeze public-sector pay."