The Bank of England will raise its key interest rate three times this year to prevent a surge in consumer prices from getting entrenched in the economy, the National Institute of Economic and Social Research said.
The London-based group, whose clients include the U.K. Treasury and the central bank, sees the benchmark rate increasing to 1.25 percent by the end of 2011, compared with an October forecast for the rate to rise once to 0.75 percent. It also changed its 2011 inflation forecast, raising it to 3.8 percent from 2.8 percent.
Consumer-price growth accelerated to 3.7 percent in December, almost double the central bank’s 2 percent target. That prompted Martin Weale, a former Niesr director, to join Andrew Sentance in voting for a rate increase at the Monetary Policy Committee’s Jan. 13 meeting, as they expressed concern that inflation may persist above the target.
“We don’t want the anchor to drift given what’s happening to oil prices, because then rates really will have to go up quite sharply to bring inflation back down to target,” Simon Kirby, a research fellow at Niesr, said in an interview after a press conference in London yesterday. “The first move could come as soon as May.”
The pound rose 0.3 percent and was trading at $1.6058 at 8:30 a.m. in London. Brent crude oil rose above $100 a barrel yesterday for the first time since 2008, feeding inflation pressures at a time when a sales-tax increase introduced last month is also stoking the rate of price gains.
Niesr sees inflation slowing to 1.8 percent in 2012 as the government’s fiscal tightening weighs on the economy. It cut its 2011 growth forecast to 1.5 percent from 1.6 percent, and its 2012 projection to 1.8 percent from 2 percent. Unemployment will rise to 8.7 percent this year from 7.9 percent in 2010, it said.
The institute said pressure on the economy and the labor market from the fiscal squeeze suggests the government should consider easing its planned spending cuts and tax increases.
Pushing back its aim of virtually eliminating the budget deficit to 2016 would give the Bank of England greater scope to raise interest rates to contain inflation, Niesr said. Policy makers may have to postpone an increase if first-quarter gross- domestic-product data shows the recovery faltered, it said.
The economy shrank 0.5 percent in the fourth quarter, the most in more than a year, as the coldest December in a century kept shoppers home and stranded travelers. The Office for National Statistics said the economy would have stagnated had it not been for the snow.
‘Hands Are Tied’
“There’s a risk growth could be significantly weaker, and in that case the Bank of England’s hands are tied,” Kirby said. “The reason why the U.K. economy is so weak is in part because of fiscal policy.”
Several quarters of contraction may force policy makers to resume bond purchases, though for now Niesr expects no more to be made, Kirby said. The bank held its bond-purchase plan at 200 billion pounds ($321 billion) in January. While Weale and Sentance voted for higher rates, Adam Posen kept up his push for more stimulus.
“It’s a delicate balancing act the bank has to make,” Kirby said.
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