Inflation dips below target

UK inflation fell below the Bank of England’s (BoE’s) target of 2% for the first time since September 2007 during June. The Consumer Price Index (CPI) rose by 1.8% year on year during the month, compared with an increase of 2.2% during May, according to the Office for National Statistics (ONS). June’s drop was driven by lower prices for non-alcoholic drinks, food – particularly meat, bread and cereals, milk, vegetables and fruit – and furniture. The only major boost for inflation during the month came from the rising cost of computer games. Despite this, retail sales grew by 1.4% in June on an annualised basis, according to the British Retail Consortium, driven by stronger sales amongst non-food retailers as shoppers responded to unusually warm weather. Meanwhile, the Retail Prices Index (RPI) fell by 1.6% during June, its fastest drop since records began in 1948. RPI includes housing costs and mortgage interest payments, and these have declined because UK interest rates are running at record lows. Less than one year ago, UK inflation was running at a 16-year high of 5.2% as surging costs for food and fuel drove prices sharply higher. More recently, however, falling demand has led price inflation to slow down amid a harsh environment of negative economic growth, stagnating wages and rising unemployment. The UK economy contracted by 2.4% during the first three months of 2009, its most serious fall since 1958. Nevertheless, according to the Royal Institution of Chartered Surveyors, the UK housing market showed tentative signs of stabilising during June as surveyors reported a net improvement in London house prices for the first time since September 2007. June’s drop in inflation was widely expected; nevertheless, the news reignited discussion about the possibility of a damaging period of deflation. The BoE’s primary brief to ensure that inflation meets its government-set rolling target of 2%, and this remit is likely to continue to guide the central bank’s monetary policy. Looking ahead, if CPI falls below 1%, BoE governor Mervyn King will have to write to the Chancellor of the Exchequer to explain why, and to outline how the BoE intends to address the situation. The BoE’s Monetary Policy Committee (MPC) believes that inflation is unlikely to return to its target of 2% before 2011, and a sustained period of below-target inflation will help to feed speculation that UK interest rates are likely to remain low for some months to come. For independent financial advice speak to Mark or Clare at GMP Independent Financial Advisers LLP on 0207 2886400