Breathing space on rates after surprise dive in UK inflation

 

Inflation has declined unexpectedly to a four-and-half-year low as the supermarket price war pushes down on the cost of living and eases the pressure on the Bank of England to put up interest rates.

Annual consumer price index (CPI) inflation was 1.5 per cent in May, down from 1.8 per cent in April and below economists’ consensus expectation of 1.7 per cent.

The Office for National Statistics reported that the bulk of the fall was a result of lower transport and food and drink costs. Bread, meat vegetable and soft drink prices declined month on month, reflecting the fact that the big four supermarket chains have slashed prices as they come under growing pressure from discounters such as Aldi and Lidl.

“We suggest that the combination of strong sterling, weaker commodity prices and ‘price skirmishes’ by the supermarkets have contributed to falling prices in the shops” Gerard Lane of Shore Capital said.

The Bank’s Governor, Mark Carney, surprised markets last week by suggesting interest rates could rise “sooner than the markets currently expect”, prompting traders to bring forward their forecast for the first rate rise from the first quarter of 2015 to the final quarter of 2014.

But some City analysts said the latest inflation figure made it less likely that the Bank would need to raise rates from their present record low of  0.5 per cent within the next six months. “It gives the MPC even less cause to worry about a possible rise in inflation expectations and inflation” Jonathan Ashworth of Morgan Stanley said.

“We expect inflation to stay below target for another  18 plus months and think the MPC will give the recovery more time to build resilience, and pay growth more chance to pick up, before raising rates.”

Jeremy Cook, of World First, said that “given their central mandate of price stability, there is little cause to alter the current policy as it stands”.

The Bank will release the minutes from its latest Monetary Policy Committee meeting today, which could give an indication of the thoughts of members on the timing of the next rate rise.

The CPI inflation rate has now been below the Bank’s 2 per cent target for six consecutive months. It has not been this low since October 2009. The rate of inflation as measured by the retail prices index (RPI) also declined to 2.4 per cent, down from 2.5 per cent in April.

George Osborne said the fall in the inflation rate was “good news” and “another sign that our long term economic plan is working”. Labour’s shadow Treasury minister Catherine McKinnell also welcomed the fall in the inflation rate, but said that “most people are still feeling the squeeze”.

“Wages after inflation have now fallen by over £1,600 a year under David Cameron and the link between the wealth of the nation and family finances is broken,” she said.

The ONS also reported that house prices continued to surge ahead in April, rising by 9.9 per cent year on year, taking the average house price to a new high of £260,000.

Prices were up 18.7 per cent in London, 6.8 per cent in the South-east and 5.5 per cent in the North-west.

The Bank of England’s Financial Policy Committee met today to discuss whether action to dampen the housing market is warranted.

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