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UK Inflation falls to 4.2% in December

By Michael Millar

Date: Tuesday 17 Jan 2012

UK Inflation falls to 4.2% in December

Prices rose at a rate of 0.4% on the month (4.2% on the year), in December, down from 4.8% in November and the largest fall between two months since April 2009.

The retreat in prices matched consensus expectations exactly.

At a 3.0% on the year gain the core rate of inflation was also in line with economists' forecasts.

The downward pressure on the Consumer Prices Index (CPI) was driven by petrol, gas and clothing, according to the Office for National Statistics (ONS).

The price of clothing and footwear saw a 2.8% drop as retailers began sales early to attract customers in the run-up to Christmas.

The only large upward pressure to the change in CPI between November and December came from landline and mobile phone charges, the ONS said.

The drop had been expected by many economists, not least at the Bank of England, where policy makers have put their faith in a sharp fall in inflation to justify the Bank's quantitative easing programme and the decision to keep the base rate at 0.5%.

However, inflation still remains at more than double the Bank's target rate of 2%.

The Retail Prices Index, which includes many housing costs and if often used in wage negotiations, fell to 4.8% in December, down from 5.2% in November.

Chris Williamson, an analyst at Markit agreed that further falls were likely in coming months, reducing the squeeze on incomes seen last year and providing a much needed boost to economic growth in 2012.

"The data therefore add support to the Bank of England's expectation that inflation will drop below its 2% target by the end of the year," he said.

Dr Howard Archer, chief UK economist at IHS said December’s drop made further quantitative easing in February "look ever more inevitable".

"We expect a further £50bn of QE in February to be followed by another £50bn in May," he said.

"This would take the stock up to £375bn," he added. "Furthermore, it is highly possible that the Bank of England could ultimately take the stock of QE even higher than £375bn."

At Barclays Capital, for their part, economists are pointing out that, “the fall in inflation that we expect to see during 2012 should contribute significantly to an easing in the real income compression witnessed in recent years. This is a key determinant of our view that the consumption outlook is likely to pick up over the course of the year, driving a slow but steady improvement in the overall growth outlook.”

Economists are divided as to when the Bank of England will next raise interest rates, but many do not see any such decision happening until at least the middle of 2013.

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