Leaked papers show Treasury expects rise in inflation: Underlying rate may well increase next month but will stay under

THE TREASURY believes that inflation may well rise again next month, but that the underlying rate of price increases will remain below the Government's 4 per cent target ceiling next year, according to confidential briefing documents leaked to the Labour Party.

The documents - briefings prepared for ministers and the press office by the Treasury's economists - also showed that the 0.4 per cent fall in manufacturing output in August was unexpected by the Treasury, which had forecast a 0.5 per cent rise. The Treasury's own analyses suggest that factory output may now be on a downward trend.

Inflation rose from 1.7 per cent in August to 1.8 per cent in September, according to figures released yesterday by the Central Statistical Office. The Treasury document - a confidential internal analysis prepared by Alan Wilson of its economic analysis division - said: 'In October, we are projecting little change in inflation, with annual inflation rates either flat or rising 0.1 percentage points to 1.9 per cent'.

The Treasury also believes that the underlying inflation rate - excluding mortgage interest payments - may increase again next month, on top of September's unexpectedly large rise. Underlying inflation rose from 3.1 to 3.3 per cent in September, with the Treasury projecting no change or a rise to 3.4 per cent this month.

'Further ahead we expect the retail price index excluding mortgage interest payments to continue to increase somewhat as upward pressure from the lower exchange rate slightly outweighs downward pressure from the slackness in the economy', Mr Wilson wrote.

Mr Wilson added that the Treasury's internal October economic forecast, prepared as background to the Budget, showed underlying inflation around 3.5 per cent for much of next year, falling to 3.25 per cent by the end of the year. The October inflation rate was only slightly higher than had been projected in the October forecast, so the Treasury's long-term outlook remained unchanged.

This figure was lower than forecast at the time of the Budget and in the internal May forecast used in the planning of the public spending round.

Harriet Harman, whose office released the documents, said: 'In public, (the Government) says inflation is beaten, in private they admit it is only the weakness of the economy which is keeping it down.' She urged the Government to publicly acknowledge the weakness of the economy and 'start taking measures to strengthen it'.

The leaking of the documents will come as a severe embarrassment to the Treasury, which is carrying out a study of how it can implement William Waldegrave's 'open government' initiative. The Treasury's establishments and organisation division is almost certain to launch an official leak inquiry.

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