Jump in factory-gate prices dampens hope for rate cuts

Factory-gate prices rose at their fastest annual rate since 1991 last month, dampening hopes that the Bank of England will slash interest rates. Producer prices for chemicals, textiles, food and other goods rose 5.7 per cent, the Office for National Statistics said yesterday. Raw materials costs jumped an annual 19.1 per cent, the biggest rise since records began in 1986.

The Bank reduced rates by a quarter point last week, but warned that it had to balance economic growth with keeping inflation under control. It has forecast that this year will be the most difficult since it gained independence on monetary policy in 1997.

Manufacturing output prices rose 1 per cent month on month, the most for 13 years and double the rise expected by economists. The manufacturing sector is charging more to make up for surging raw materials costs, which rose 2.6 per cent during January. Alan Clarke, UK economist at BNP Paribas, called the numbers "horrific". Sterling reversed an earlier decline against the dollar yesterday as investors decided the Bank of England would be reluctant to take aggressive action to cut interest rates. Sterling had fallen sharply in recent months on bets that the central bank would make cuts to boost the economy.

Government bond prices dropped and yields rose from a two-and-a-half year low after the factory-price figures came out.

The fall in the pound has helped stoke pressures on inflation and raw material costs by pushing up import costs. Mervyn King, the Governor of the Bank of England, has warned that he may have to write to the Chancellor to explain why inflation has hit 3 per cent, a point higher than the target rate. Consumer price inflation was at 2.1 per cent last month, but economists expect the rate to have increased when it is announced tomorrow.

Mr Clarke said: "It is hard to envisage that recovered secondary raw materials could so quickly feed into consumer prices. It does point to pent-up inflationary pressures that could contribute to higher consumer price inflation over a slightly longer horizon."

Annual house-price inflation slowed in December to its lowest rate for more than a year in a further sign the property market is cooling. The Department for Communities and Local Government said house prices rose 9.1 per cent in December, down from 9.7 per cent a month earlier and a 2007 peak of 12.3 per cent in July. The figures are based on sale completions and therefore lag other surveys.

But they reinforce surveys by major mortgage lenders which show continuing weakness in the housing market. In London, annual house price inflation slowed to 13.5 per cent in December from 14.5 per cent a month earlier.

Ross Walker, an economist at the Royal Bank of Scotland, said that the Bank of England probably knew about the manufacturing prices data before cutting rates and that this did not mean an end to rate reductions. "It does cast serious doubt on current market expectations for extensive rate cuts," he added.