Inflation rise prompts fears of early rate hikes

Weak sterling and higher commodity costs behind rise

An unexpected jump in factory gate prices has raised concerns that the Bank of England may have to tighten monetary policy before the recovery is firmly secured, in order to head off the threat of higher inflation.

Weaker sterling and a revival in commodity prices has left inflationary pressures from abroad stronger than they might otherwise be. The data suggests that inflation in the UK will continue to be higher and "stickier" than in other industrialised nations, although British price rises are extremely low by historical standards. The Retail Prices Index, which includes mortgage bills, has recorded negative inflation recently. The Bank will make its next decision on interest rates and its programme of quantitative easing – injecting money into the economy – in November.

The Office for National Statistics said yesterday that the annual rate of output price inflation from British factories rose to 0.4 per cent in September, contrasting with a fall of 0.3 per cent and a record drop of 1.3 per cent in the annual rate for July. Analysts had expected a drop of 0.1 per cent. The result was doubly disappointing because much of it was accounted for by an increase in "core" inflation, and thus could not be put down to temporary movements in volatile items such as food and fuel prices. Output prices rose by 0.5 per cent during September alone.

Michael Saunders, of Citigroup, said: "The UK's troublesome inflation trends as recovery emerges probably will prompt the Monetary Policy Committee to hike relatively early compared to the European Central Bank, while also pushing break-even inflation rates higher." Import prices are still falling – but at a much slower rate than earlier in the year as commodity prices have crept up. In September the annual rate of decline narrowed to 6.5 per cent, from a fall of 12.2 per cent as recently as July. Import prices rose, on a seasonally adjusted basis, by 0.6 per cent last month.

However, the decline in the pound since 2007 has started to show through in the latest trade data, which show a further underlying improvement in August. The headline trade deficit narrowed to £2bn, from £2.6bn in July and the trade in goods deficit narrowed from £6.4bn to £6.2bn, the smallest deficit since June 2006. The volume of British exports rose by 1.6 per cent in the three months to August, the first positive reading in a year.

The Organisation for Economic Co-operation and Development said yesterday that it expected the eurozone economies to take the lead in a return to expansion.