Rise in UK inflation rate piles pressure on bank

LONDON — The Bank of England’s credibility was called into question on Tuesday after official data showed that inflation surging well above the central bank’s stated target.

LONDON — The Bank of England’s credibility was called into question on Tuesday after official data showed that inflation surging well above the central bank’s stated target.

Britain’s Office for National Statistics revealed that the country’s key inflation rate rose to 4 per cent in January, double the official target and prompting a public explanation from bank governor Mervyn King.

King and a number of other policymakers on the bank’s nine-strong Monetary Policy Committee have insisted the stubbornly high cost of living is due to temporary price shocks, such as soaring global commodity prices, a fall in the value of sterling, and a rise in sales tax last month.

Prices are continuing to rise even as the economy struggles — gross domestic product shrank by 0.5 per cent in the fourth quarter.

At least two members of the committee, which got an advance glimpse of the inflation figures for last week’s policy meeting, backed a modest hike in interest rates from a record low 0.5 per cent to 0.75 per cent. But King and the majority argued that higher rates would be ineffective against the external factors driving the price rises.

The Statistics Office said the largest factors in the latest increase were the higher price of oil and an increase in the broad-based sales tax from 17.5 per cent to 20 per cent. Excluding the tax hike, consumer inflation rose from 2 per cent in December to 2.4 per cent in January, partially backing King’s stance.

But Howard Archer, chief U.K. and European economist at IHS Global Insight, said the rise in inflation from 3.7 per cent in December was a “kick in the teeth” for the central bank.

“This level, and the prospect of further increases to come in the next few months, is increasingly testing the Bank of England’s nerve and, an ever-increasing number of observers suggest, its credibility, over its argument that inflation will fall back under 2 per cent in 2012.”

Neil Prothero, economist at the Economist Intelligence Unit, said blaming temporary factors for rising prices is “wearing thin.”

“A growing number of MPC members may be thinking the same thing,” he added.

King acknowledged in an open letter to Treasury chief George Osborne, which he is obliged to write when consumer inflation remains at 3 per cent or higher for three consecutive months, that there “are real differences of views within the committee” about the medium-term outlook for inflation.

King added that inflation is likely to continue to pick up to somewhere between 4 and 5 per cent over the next few months “appreciably higher than when I last wrote to you” in November, before falling back in 2012.

Philip Shaw, an economist at brokers Investec, who expected inflation to hit 4.3 per cent in January, said the letter gave the impression that King had “moved onto the backfoot” over policy.

Other economists said his comments raised the prospect of an interest rate hike as early as May, but there is division among external analysts as well as the Monetary Policy Committee.

David Kern, chief economist at the British Chambers of Commerce, warned against a premature rate hike before harsh spending cuts by the Conservative-led coalition feed through the economy.

“We believe that interest rates will probably have to rise later this year, but it is critical that the MPC waits until the initial impact of the austerity measures have been absorbed,” Kern said. “Considering an increase in interest rates before the middle of the year would be a mistake.”