Inflation risk turns up heat on Bank rate

Julian Harris
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THE Bank of England could signal an imminent rise in interest rates this week, with the publication of the latest inflation report which forecasts inflation and growth in the UK.

“We expect the Bank’s report to show an upward revision to their inflation projection and to signal that the first rate hike is likely to arrive sooner rather than later,” said a BNP Paribas spokesperson.

More pressure will be piled on the Bank of England to raise interest rates tomorrow, if January’s consumer price inflation yet again surprises on the upside. In December, CPI inflation jumped to 3.7 per cent, above forecasts of 3.3 per cent.

While some analysts still expect rates to stay at their historically low level of 0.5 per cent until the end of the year, the markets anticipate an earlier hike.

“Looking at sterling interest rate futures, markets are pricing in an 88 per cent chance of a 0.25 per cent increase by June,” said Hetal Mehta of Daiwa Capital.

Markets are 100 per cent confident of rates hitting one per cent by September, and are expecting an additional 0.25 per cent rise by the end of the year, she said.

“We still expect rates to rise soon and rise further than markets price in,” added Michael Saunders of Citigroup.

Saunders also questioned the Bank’s credibility, after a long period of incorrect inflation forecasts.

“The nine inflation reports from August 2008 to August 2010 all projected sub-target inflation two to three years ahead,” Saunders said, “and succeeded in persuading markets that rates will stay low for an extended period.”

“However, the November report’s forecasts failed to gain similar traction with the markets,” he said.

Even if the Bank forecasts inflation coming down next year, “investors may again be sceptical, doubting the inflation forecasts and hence also doubting their message that rates will rise slower than markets price in,” Saunders said.

“In fairness, the recent forecasting record of economists has not been much better,” added Deloitte’s Ian Stewart.