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Inflation report sparks fear of interest rate rise

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Interest rates could increase in 2011 to put a further squeeze on consumer spending after the Bank of England (BoE) suggested yesterday that “there is a good chance” inflation will hit five per cent later in the year.

Governor of the Bank Mervyn King’s latest Inflation Report predicted that inflation will remain above the target rate of two per cent throughout this year and next, prompting base rate predictions to be revised by a number of financial commentators.

Andy Scott, Premier Account Manager at foreign currency brokers HiFX, said that rates could be set to rise from their current record low level of 0.5 per cent earlier than originally expected following yesterday’s economic forecast.

“This, plus their slightly more upbeat stance on economic growth has caused market expectations for an interest rate rise to be brought forward from January next year to December this year,” he explained.

It could be even earlier than that if other market predictions are correct, with Chief UK and European Economist for IHS Global Insight Howard Archer suggesting it is more likely than not that it will start rising gradually from the end of this year.

Inflation actually fell from 4.4 to four per cent in March, but King admitted this is still “uncomfortably high”, adding that expected utility price rises later in 2011 could be a major catalyst for it to increase as the year moves on.

Uncertainty about employment and a slow housing market are currently keeping consumer confidence down, and higher interest rates would only work to dampen the mood further and perhaps reduce the likelihood of high levels of shopper spending.

However, as King himself suggests, there is “a great deal of uncertainty about the outlook for inflation”, and yesterday’s news comes after analysis from many economic observers which had suggested that the base rate would remain at 0.5 per cent until at least 2012.

Earlier this month Senior UK Economist for Capital Economics Vicky Redwood said that the low level of pay increases in the three months to March, reported by income data services firm IDSPay.co.uk, was a sign that the Bank’s Monetary Policy Committee is unlikely to raise interest rates any time soon.

“We still think that the large amount of slack in the labour market will keep wage growth firmly contained even in the face of further rises in inflation,” she explained at the time.

So opinions still differ regarding the future direction of the base rate but what is for certain is that the UK economy remains in a fragile state, making it a tough trading environment for the nation’s retailers.

Published on Thursday 12 May by Editorial Assistant

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