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Bank of England to play down deflation fear with new forecasts
February 12, 2015 / 12:03 AM / 3 years ago

Bank of England to play down deflation fear with new forecasts

LONDON, Feb 12 (Reuters) - Bank of England chief Mark Carney will probably say on Thursday that British inflation will soon go negative, but the scale of its predicted bounceback might make investors rethink how long interest rates will stay at a record low.

A halving in global oil prices and last year’s strengthening of the pound have pushed down inflation to its lowest level in nearly 15 years at 0.5 percent, way below the BoE’s 2 percent target.

The shortfall is so big that Carney will have to explain it to finance minister George Osborne. His open letter is due to be published at 1030 GMT on Thursday, alongside the Bank’s quarterly Inflation Report.

But neither Carney nor Osborne is likely to be too worried.

Unlike in the euro zone, where falling prices have raised fears of damaging, Japan-style deflation, Britain’s ultra-low price growth is expected to give a boost to the economy which is growing solidly.

Cheaper fuel has put more money in the pockets of consumers and factories had a strong January as their costs fell.

Some economists predict that Britain will have its fastest economic growth in nearly a decade this year, something Prime Minister David Cameron is trumpeting to voters ahead of a parliamentary election on May 7.

Yet financial markets expect a first interest rate hike by the BoE only in early 2016 -- a little sooner than the middle of next year which investors were predicting only recently -- which would be nearly seven years after they were cut to 0.5 percent in the financial crisis.

At the end of last month, yields on 10-year government debt, a benchmark for lending, touched their lowest levels on record.

“We think the Monetary Policy Committee is probably a little uncomfortable with the extent to which market expectations for tightening have slipped into 2016,” David Tinsley, an economist with UBS, said.

“But with heightened uncertainty from Greece, Governor Carney may not think it is the right time to come out with hawkish guns blazing.”

The BoE’s challenge stands in contrast to that of many other central banks which have recently cut rates or taken other stimulus measures to offset fears about slowing growth.

Economists say markets could be wrong-footed if the BoE on Thursday raises a forecast it made in November that inflation would gain speed to 1.8 percent in two years’ time.

Since then, oil prices have fallen further, raising the prospect of overall deflation in the coming months but also ramping up the economy’s growth prospects which could push up prices more quickly further out.

Economists at Goldman Sachs and JP Morgan said they expected the Bank would predict that inflation would go above its 2 percent target in three years’ time. Goldman said it expected a first rate hike in late 2015.

Investors will also watch closely for the Bank’s forecasts for growth in wages which have begun to show signs of a pick-up after lagging inflation for most of the period since the financial crisis. (Additional reporting by Andy Bruce; Editing by Janet Lawrence)

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