Consumer prices rose 0.3 per cent in August, a slightly smaller increase than Wall Street economists had expected because of subdued food prices and a 1 per cent drop in clothes prices. The Labor Department said there was no sign yet that higher wholesale prices were feeding through to price rises in the shops, although economists remain nervous.
The inflation figures helped push the US Treasury market higher, with a strong Atlanta Fed index of industrial activity partially offsetting the impact of the consumer prices figures. New York shares also reacted favourably, with the Dow Jones Industrial Average closing almost 20 points higher.
Wall Street's performance helped the FT-SE 100, which at one stage was more than 40 points down. It closed 7.4 points below Monday's close at 3,121.4. Trading volumes were thin, with chartists - who predict the market's movements purely from its past behaviour - forecasting that it would head below 2,900 in the next few months.
Equity market analysts were concerned that share prices might be undermined by further base rate rises, which could slow the economy's growth next year and depress corporate earnings.
The short sterling futures market became slightly less pessimistic about base rate prospects, but the March contract still implied base rates of more than 7 per cent next year.
The strong performance of the US bond market helped to push the dollar slightly higher. It closed 0.57 pfennigs stronger against the mark at DM1.5488 and Y0.09 higher against the yen at Y99.05. The pound fell 0.55 cents to dollars 1.5605 and rose more than half a pfennig against the mark.
Separately, the Confederation of British Industry published figures showing an uptick in pay settlements in service industries. Settlements averaged 3.3 per cent in the three months to June, up from 3.2 in the three months to May and the low of 2.6 per cent in the three months to last October.
The average level of manufacturing pay settlements was 2.7 per cent in the three months to June - unchanged on the three months to May but up from 2 per cent in the three to October.
The Department of Employment will today publish average earnings figures for July, expected to show the underlying annual rise in average earnings unchanged at 3.75 per cent. The Chancellor hopes that his decision to raise base rates will persuade pay negotiators that he is committed to keeping inflation low, and that they will restrain pay settlements and earnings growth.