King warns of risk to inflation from surging gas prices

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The Independent Online

Soaring gas prices will push inflation above the Government's target over the coming months, Mervyn King, the Governor of the Bank of England, warned yesterday.

Mr King told MPs the rise in gas prices was a "concern" and launched an attack on the lack of competition in the European energy market.

Giving evidence to MPs, he gave no hint of any plans to cut interest rates, sticking to the official Bank line that risks to growth and inflation were evenly balanced.

Asked about the recent swings in energy prices, he said most of the volatility in inflation over the past year had come from movements first in oil and then gas prices. "These movements mean inflation may turn out above target in the next few months because we have seen a number of companies increase prices recently," he said.

Mr King said the size of the changes in gas prices was "very striking", reflecting the fact that the gas market was a spot market.

On one day last month wholesale gas prices surged fourfold to a record of more than £2.55 a therm compared with less than 30p a year ago, forcing some factories to halt production.

Mr King said it was disappointing the interconnector pipe between the UK and the Continent had not seen supplies flowing into the UK as prices rose.

In a reference to an economic theory of markets that it is easy for new firms to compete, he said: "The gas market on the other side of the Channel is not exactly reminiscent of a group of atomised competitors of textbook theory. The underlying economies of the gas market across the Channel are unlikely to change quickly."

Gas suppliers have imposed price increases of almost 24 per cent, which are likely to feed into the official inflation data in coming months. He said the "real hope" for the future was a new gas pipeline from Norway, although he said it was still doubtful it would be open in time for this winter.

"So we still face the prospect of remarkable volatility in gas prices through the next 12 months and that's a source of concern to firms for whom gas prices are a significant proportion of their costs," he said.

His comments on Europe echo criticism by the Government, business leaders and energy suppliers of the structure of the European market

In February, the European Commission said some of Europe's biggest energy firms were holding back gas supplies and promised a crackdown on "anti-competitive behaviour". Mr King said despite the price spike, underlying inflation had remained "stable" at about the 2 per cent target.

He said energy prices were the main danger to inflation - although the risks were on both sides. "Increases in oil and gas prices may have eroded the supply capacity of the economy and altered the balance between demand and supply."

On the other hand, they could also erode the purchasing power of household incomes, thus slowing the growth of consumer spending, he said.

Mr King was supported by Kate Barker, who said she had not voted for a cut in interest rates because of her concern that energy prices could lead to demands for wage increases. "At the moment, in particular as the economy is doing reasonably well, I don't see the urgency for rate cuts," she said, although she added that her personal growth forecast was weaker than the Bank's.

But Stephen Nickell, who leaves the committee in May after six years, said factors such as the 150,000 rise in unemployment over the past year pointed to a degree of spare capacity in the economy. "By and large we now seem to be in a time where, in my view, if we're going to do anything, we're going to be cutting," he said.

Alan Clarke, the UK economist at BNP Paribas, said: "The comments show that as a whole the Monetary Policy Committee is aggressively neutral."

Meanwhile, business investment in the fourth quarter of 2005 was revised up to show a fall of 0.9 per cent against the previous quarter, taking it up 1.3 per cent year on year, according to official data.

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