A Bank of England policymaker has signalled that interest rates may need to rise this year as worries persist over the “resilience” of inflation.
Andrew Sentance, who has served on the Bank’s monetary policy committee (MPC) since 2006, said that spare capacity left over by the recession had not exerted much downward pressure on inflation so far.
Inflation stands at 3.7 per cent and is only expected to show a modest fall when figures for May are published by the Office for National Statistics on Tuesday.
Interest rates were kept at a record low of 0.5 per cent on Thursday, but Mr Sentance questioned how long the Bank’s highly expansionary policy will remain.
Writing in the Sunday Times, he said he expected some “interesting debates” at MPC meetings in the second half of the year.
Mr Sentance said: “In late 2008 and through 2009, the MPC put in place a highly expansionary policy to offset the sharp contraction in demand driven by the financial crisis.
“However, the recovery in the economy and the resilience of inflation highlight the issue of how long such an expansionary policy will remain appropriate.”
The Bank has been reluctant to raise rates because of the fragility of the economy and because of forthcoming tax rises and public spending cuts. Governor Mervyn King said last month that he believes inflation will fall back to its 2 per cent target “within a year”.
Mr Sentance noted that since the start of 2008 inflation has averaged 3 per cent - above the Government’s 2 per cent target and more than one percentage point above its average in the pre-recession period of growth.
External factors such as a volatile oil price have made control of inflation difficult, but Mr Sentance said other countries were not seeing the same spike.
One factor is the pound’s weakness, which has generated more upward pressure on import prices than elsewhere.
Unemployment has also risen to a lower level than at the same stage of the economic cycle in the early 1980s and 1990s, while wage growth is also picking up as the labour market stabilises.
Mr Sentance added: “As spare capacity has not exerted much downward pressure on inflation so far, there must be a high degree of uncertainty about its future impact.
“And though some headwinds to growth will remain - including deficit reduction and weakness in some eurozone economies - these can be offset by growing confidence and momentum from private-sector demand, as in the 1990s recovery.”
The Organisation for Economic Co-operation and Development recently said the Bank should wait no longer than the final quarter of the year before acting and expects interest rates to reach 3.5 per cent by the end of 2011.