Inflation rises for second month running: Fears grow that target ceiling will be breached Sharp fall in long-dated gilts triggered

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The Independent Online
INFLATION rose for the second successive month in March, fuelling fears that the underlying rate of price increases will break through the Chancellor's target ceiling this year.

Inflation rose to 1.9 per cent last month, from 1.8 per cent in February, the Central Statistical Office said. The rise disappointed the City, where it was seen as reducing scope for another cut in interest rates.

The news triggered a sharp fall in long-dated gilt prices, with the 9 per cent due 2008 falling pounds 11 16 to pounds 1067 32 . Busy trading on the futures market saw the December 1994 contract fall to 92.7, implying a 7.3 per cent base rate by the end of next year, compared with the current 6 per cent.

Fading hopes of another rate cut also hit the stock market, where the FT-SE index of 100 leading London shares closed 15.3 points lower at 2,824.4, having been more than 22 points down around midday. The pound was briefly buoyed, but profit- taking saw it close 0.8 points down against a basket of currencies at 80 per cent of its 1985 value.

The lower mortgage rates announced in the wake of January's base rate cut exerted downward pressure on inflation, but were more than offset by a sharper rise in food prices than in the same month last year. Excluding food prices, inflation fell from 2 to 1.9 per cent.

The retail price index - which measures the cost of the average family's shopping basket - rose by 0.4 per cent between February and March, up from a 0.3 per cent increase in the same month a year earlier. Food prices rose by 0.8 per cent, with seasonal food prices rising more quickly for the time of year than at any time since 1986.

Rises in the price of beef, dairy products, sugar, sweets and soft drinks partly reflected devaluation of the 'green pound', following sterling's sharp fall since Black Wednesday. A lower green pound guarantees producers higher prices for foodstuffs covered by the EC common agricultural policy.

The Government's preferred measure of underlying inflation - excluding mortgage interest payments - rose from 3.4 to 3.5 per cent, a second consecutive rise. The Treasury forecasts that the underlying rate will average 3.75 per cent in the fourth quarter this year and next, just below its 4 per cent target ceiling.

City economists are divided as to whether the Chancellor will succeed in keeping underlying inflation below the ceiling. Kevin Gardiner, of Warburg Securities, expects the ceiling to be breached next year with underlying inflation rising to 4.5 per cent. But he added that inflation would remain subdued in the short term as the impact of devaluation was offset by falling unit labour costs.

Don Smith, of Midland Global Markets, said it was disappointing that price rises had been concentrated in services, suggesting that sterling's devaluation could not be blamed as most services are not subject to international competition. But he forecast that underlying inflation would end the year around 3.5 per cent and would not top 4 per cent.

Economists at UBS said goods price inflation had risen from 2.1 to 2.2 per cent, while services inflation had jumped from 5.8 to 6 per cent. They predicted a sharp pick-up in inflation through the rest of the year, reflecting the boost to import prices from devaluation and greater confidence among retailers about the strength of demand. They expect underlying inflation to end the year around 4.25 per cent.

Next month's figures will reflect the replacement of the poll tax by the council tax, where lower average bills could push the headline rate sharply lower. The April figures also include Budget increases in excise duties, which should have a small upward effect.

(Graph omitted)

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