Inflation fear eases as prices fall back at the factory gate

While retail inflation is set to peak in the next few months, probably in excess of 5 per cent, yesterday brought the strongest evidence to date that inflation will also shortly afterwards "plummet like a stone", in the recent words of the Bank of England policymaker David Blanchflower.

The Office for National Statistics said British factory gate prices fell at their sharpest monthly rate in at least 22 years in August, and that raw material costs also declined by more than expected, the clearest sign yet that producer price inflation, which normally feeds through to shop prices after a lag of a few months, has peaked.

New data on the housing market and on retail sales also revealed fresh weakness in those key sectors of the economy. The British Retail Consortium pronounced August a "washout" for their members. The chief executive of the Nationwide Building Society said that house prices could fall by 25 per cent from their peak. Taken together, analysts believe they strongly reinforce the case for a cut in interest rates by the Bank of England before the end of the year, probably in November.

The record fall in the output prices of manufactured goods for August came with a drop of 0.6 per cent during the month, the largest in 22 years. It was largely down to a fall in the price of oil-based products, reflecting the decline in the price of a barrel of oil from around $150 to below $120 in a few weeks. The figures leave the year-on-year rise in producer prices at 9.7 per cent, down from 10.3 per cent in July.

The numbers, a measure of the price of goods bought and sold by UK manufacturers, significantly exceeded expectations, with a welcome fall in "core" inflation – leaving aside volatile items such as food and petrol – as well.

Paul Dales, UK economist at Capital Economics, said: "The first real signs that the economic downturn is starting to squeeze inflation out of the system support our view that the Monetary Policy Committee will be cutting interest rates once again by the end of the year."

Such a move would be very welcome in the housing market. The Royal Institution of Chartered Surveyors' latest review of the property scene repeated its gloomy view of activity, with the average number of transactions reported by surveyors down yet again, as the shortage of mortgage funds and a lack of demand for them in a falling market pushed would-be buyers to the sidelines.

Rics spokesperson Jeremy Leaf said: "The Government's stamp duty policy will not be enough to kick-start transactions and is more likely to assist buy-to-let investors with better access to finance than the first-time buyers it was aimed at."

Nor is the mood much more cheery on the high street. The British Retail Consortium rep-orted sales revenues fell 1 per cent, on a like-for-like basis, from August 2007, when they had risen 1.8 per cent, and that "very wet and dull weather hit sales in August. A few sunny days, together with extended clearance events, helped some, but underlying trade remained tough, with widespread discounting".

But food prices are still soaring

While the Bank of England's policymakers will take some comfort in the evidence of more subdued general inflation, consumers will be left worried that increases in the price of food show little sign of abating.

Amid falling commodity prices, including foodstuffs, food costs rose 0.9 per cent this month, taking the annual increase to 12.5 per cent – the highest since records began in 1986. The price of bread (2.8%), yoghurt (25.3%) and meat (1.3%) have continued to soar.

Experts express some optimism the latest rises are a lagged reaction to past inflation in the world cost of foodstuffs, and that these input costs are starting to ease. The cost of feed wheat and milling wheat fell by a little over 10 per cent this month and domestically produced food was down by 3.1 per cent from July.

Alex Pienaar