Bank of England Governor Mark Carney suggested an interest rate rise could come sooner than financial markets expect, in an announcement that sent the pound higher against the dollar.
The inflation report predicted its Consumer Prices Index (CPI) benchmark slipping to zero this year, against the backdrop of a dramatic 50 per cent-plus plunge in oil prices since last summer, falling food prices and a round of cuts to gas and electricity bills from suppliers.
But the Governor’s bullish tone on the health of the UK economy and his stress on the temporary nature of ultra-low inflation was picked up by currency markets, immediately sending the pound up a cent against the dollar to highs of $1.5336.
Carney said the monetary policy committee would watch for any disappointment from global financial markets but emphasised "solid growth in consumer spending", an "increasingly resilient" financial system and "robust investment growth".
Official figures for December showed the CPI at just 0.5 per cent, which should trigger the fastest growth in real-terms pay for a decade.
He added: "On the upside, the MPC is alert to the risk that lower oil prices provide a greater-than assumed stimulus to real incomes and to demand, or that slack in the economy is absorbed faster than in the central case.
"If these risks were to materialise, it could be appropriate for Bank Rate to rise more quickly than implied by current market yields."
November’s inflation report previously signalled inflation of 2 per cent at the end of the Bank’s forecast period.
But the fresh forecast suggested an overshoot of the target, hinting rate rises might come sooner than the market’s expectation for early 2016.
Capital Economics chief UK economist Vicky Redwood said: "With the MPC fairly relaxed about the prospect for deflation, we still think there is a reasonable chance of a hike before the end of this year."
Carney also published the first-ever exchange of letters with the Chancellor for inflation undershooting the 2 per cent target by more than one percentage point.
In his letter Carney said: "Temporarily negative inflation rates driven by falls in commodity prices actually boost households' real take-home pay, particularly if wages are growing."
The latest forecasts come as the Bank prepares to mark the sixth anniversary of interest rates at a record low 0.5 per cent next month. Hawks Ian McCafferty and Martin Weale abandoned hike calls in January.Reuse content