May 1, 2007 / 12:07 PM / in 13 years

Sales and factory prices fan hike talk

LONDON (Reuters) - The possibility of the first 50 basis point hike in interest rates in 12 years grew on Tuesday after surveys showed rapid growth in retail sales and manufacturers’ raising prices at a near record pace last month.

A woman walks past a shop advertising a sale in Leicester January 16, 2007. The possibility of the first 50 basis point hike in interest rates in 12 years grew on Tuesday after surveys showed rapid growth in retail sales and manufacturers' raising prices at a near record pace last month. REUTERS/Darren Staples

A quarter-point rate rise to 5.5 percent next week is seen as a done deal, but some economists argue a larger move is needed to tame above-target inflation and prevent overheating.

The CIPS/RBS purchasing managers’ index on Tuesday showed manufacturers managing to repair profit margins by driving up prices and the CBI said retail sales grew at their fastest pace since mid-2004 in April.

A government report showing house prices rising firmly in March provided further support to consumers’ high spirits.

“The jump in retail confidence underlines that consumer demand is getting too robust and could swing the probability odds to a half point rather than quarter point UK rate rise next week,” said David Brown, an economist at Bear Stearns.

“It could also tip the scales to UK rates peaking at 6 percent rather than 5.75 percent this year.”

UNPRECEDENTED HIKE

Markets have already largely priced in two hikes in borrowing costs to 5.75 percent this year after inflation spiked to 3.1 percent in March, the highest since comparable records began a decade ago.

Interest rates last rose by half a percentage point in February 1995, before the incoming Labour government in 1997 made the Bank of England independent.

Since then the Bank has cut rates by that amount but kept monetary tightening cycles in gentle quarter-point stages.

This week, however, the National Institute for Economic and Social Research said the MPC may need to raise rates by 50 basis points in one go to stave off the threat of inflationary wage demands — one of policymakers’ great fears this year.

Significant pay increases have been avoided thus far despite price pressures growing across the whole economy, but analysts say Tuesday’s strong retail figures are a reminder the Bank is not out of the woods yet.

“If this is merely a last hurrah by consumers, running down their savings as soon as the sun came out then we should brace ourselves for a more abrupt slowdown in demand,” said Ross Walker, an economist at RBS.

“Alternatively, if this persists for much longer serious questions will arise about the average earnings.”

With policymakers also concerned about firms’ raising their prices to take back some of the profit they lost when commodity costs soared last year, the chance of a swift 50 basis point hike next week are increasing.

However, while a growing number of economists back the market view that rates will move to 5.75 percent this year, most doubt the shift will come in one move.

“I still lean towards a 25 basis point hike next week,” said Howard Archer, an economist at Global Insight.

“However, we have now added a further 25 basis point hike to 5.75 percent in July, and I certainly would not rule out back to back increases in May and June.”

additional reporting by Fiona Shaikh

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