Inflation threat to share prices

SHARE prices and the pound could come under pressure again this week if bad news on inflation casts further doubt on the Government's handling of interest rates, writes Robert Chote.

Last week's quarter-point cut in base rates to 5.25 per cent triggered a sharp fall in sterling and gilts prices. Analysts concluded that it was a political sweetener for forthcoming tax increases. Some also saw it as an attempt to demonstrate that rates in Britain could be cut even when they were rising in the US, or as evidence that the Governor of the Bank of England and the Chancellor had disagreed on a larger cut and compromised.

The pound responded to the base rate cut by dropping four pfennigs to DM2.5682. The FT-SE 100 index fell a further 40 points, taking the decline on the week to nearly 100 points.

The headline rate of inflation is expected to have jumped sharply last month, from 1.9 per cent in December to around 2.5 per cent when the figure is published on Wednesday.

David Hillier of NatWest Markets said that less generous price discounting could help push inflation to 2.9 per cent.

Even some long-term optimists on inflation, such as Adrian Cooper of James Capel, believe this week's figure could disappoint the market; he expects 2.7 per cent. But Mr Cooper also predicted that this could be offset by a further quarter-point fall in the annual growth rate of average earnings to 2.75 per cent.

The Bank of England timed Tuesday's rate cut to coincide with its quarterly Inflation Report, which announced a brighter outlook for inflation than three months earlier.

But the markets were more concerned that the report suggested little further improvement in underlying inflation from its current 2.7 per cent.