Inflation level increase raises prospect of interest rate hike

Inflation surged to its highest level for more than five years last month, increasing the financial pressure on households and boosting the prospect of an interest rate hike.

Highest inflation level in five years raises prospect of interest rate rise. Picture: Thinkstock/PA

Figures from the Office for National Statistics (ONS) showed the Consumer Price Index (CPI) measure of inflation reached 3 per cent in September, rising in line with expectations from 2.9 per cent in August.

The step-up in CPI was driven by higher food and transport costs, pushing the headline rate to levels not seen since April 2012.

British pensioners received a lift from September’s rise, but cash-strapped households face an even tighter squeeze as the Brexit-hit pound bumps up everyday prices and wage growth tracks behind inflation.

The state pension is linked to last month’s CPI rate, meaning the amount dished out by the government will increase by at least 3 per cent next year.

The triple-lock on pensions ensures that recipients are guaranteed a minimum increase each year by whichever is the highest out of September’s inflation rate, average earnings or 2.5 per cent.

Andrew Sentance, PwC’s senior economic adviser, said: “This latest rise in inflation will add to the squeeze on the spending power of consumers and is likely to prolong the period of sluggish growth we are currently seeing here in the UK.

“A further rise in the inflation rate later this year cannot be ruled out. Relatively high inflation will also add to the pressure on the Bank of England Monetary Policy Committee (MPC) to raise interest rates next month. A gradual rise in interest rates would help support sterling and reduce the risk that the current surge in inflation becomes more prolonged and persistent.”

September’s jump in CPI placed Bank of England governor Mark Carney on the brink of having to write a letter to Philip Hammond explaining why inflation is rising so rapidly.

The government has set an inflation target of 2 per cent, with protocol dictating that Mr Carney must contact the Chancellor if inflation exceeds 3 per cent or falls short of 1 per cent.

There is growing speculation that the MPC could raise interest rates next month, particularly after minutes from its September meeting showed all policymakers believed “some withdrawal of monetary stimulus was likely to be appropriate over the coming months”.

The Retail Price Index (RPI), a separate measure of inflation used to set next year’s business rates, was unchanged last month at 3.9 per cent.

Focusing on CPI, the ONS said food and non-alcoholic drinks rose by 0.8 per cent month on month in September after falling by 0.1 per cent over the same period last year.

On an annual basis, prices rose by 3 per cent last month, the highest since October 2013 when they climbed by 3.9 per cent.

Transport costs put upward pressure on the headline rate, recording a smaller month-on-month fall of 1.3 per cent in contrast to a drop of 2.3 per cent in 2016.