Interest rate to stay on hold in 2010

17 November 2009

The interest rate is likely to remain on hold throughout 2010 despite the fact that inflation increased in October for the first time in eight months - and is expected to continue to rise in the month ahead.

The Consumer Prices Index (CPI) – the official measure of inflation – rose to 1.5% in October from 1.1% the previous month. The Office for National Statistics, which publishes the monthly inflation figure, says the main upward drivers have been transport and food costs. Overall transport costs have risen by 3.5% year-on-year.

Meanwhile, the Retail Prices Index (RPI), which includes mortgage and housing costs, rose to -0.8%, from -1.4% in September.

Experts predict that annual inflation will continue to rise in the coming months, with the return of the 17.5% rate of VAT in January helping to push up the cost of living. Inflation is expected to rise beyond the Bank of England’s 2% target in 2010, and even move above 3%.

But this is not the major concern, says Charles David, senior economist at the Centre for Economic and Business Research: “As bank lending remains weak and fiscal tightening kicks in, we expect interest rates to remain on hold through 2010.”

A rising rate of inflation is often caused by too much money in circulation, so there have been concerns that the government’s quantitative easing programme – the creation of new money – will cause inflation to soar in 2010. So far, £200 billion of new money has been injected into the economy by the central bank.

Jonathan Loynes, chief European economist at Capital Economics, says the “vast amount of spare capacity in the economy” - basically, weak economic growth - will help prevent quantitative easing from creating hyperinflation.

“Remember that headline inflation went above 5% back in 2008, with no real ‘second round effects’ on wages and inflation expectations,” he adds. “And the economy was in a much healthier state back then. In short, no need to panic.”

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