Wednesday, February 13, 2008
Inflation report: Rates to fall not plunge
Posted by David Smith at 12:30 PM
Category: Thoughts and responses

The Bank of England's inflation report set out the dilemmma between a significant rise in inflation in the short-term and a sharp slowdown in growth. It left open the door to lower interest rates - on unchanged rates inflation will undershoot the 2% target in two years - but not the kind of cuts the markets are expecting. Compared with market expectations of a reduction to 4.5%, the Bank is signalling a cut to 5% or 4.75% (my forecast).

This was an interesting report. Mervyn King, while warning that the risks to the growth forecast - which will see it declining to a low of around 1.5% - went out of his way not to be too gloomy. He thinks it is odds-on that he will have to write a letter explaining why inflation has moved above 3% (or below 1%) over the next two years but appears unfazed by that. He also said that house prices should be in for a long period of stability.

The broad message was that the markets have got somewhat ahead of themselves on rates but that further cuts are likely, in spite of the short-term inflation problem. The report is here.

Also today, labour market statistics were published showing that things remain healthy, with a 16th consecutive fall in claimant unemployment and a 175,000 quarterly rise in employment. The job market is holding up well at a time when earnings growth remains steady. Here's the release.