UK inflation soars at fastest pace for nine months

UK inflation rose at the fastest annual pace for three quarters in December, according to the Office for National Statistics (ONS).

Consumer prices rose 0.6% last month, taking the annual rate up to 2.9% from 1.9% in November, the biggest monthly rise in the annual index since records began in 1997.

The jump significantly exceeded the City's expectations for an increase to 2.6%.

Retail Price Index (RPI) inflation also rose, up to 2.4%, its highest level since November 2008.

Azad Zangana, European economist at Schroders, cites energy price falls at the end of 2008 and the VAT cut from 17.5% to 15% in December 2008 as key reasons for the pick-up.

But he adds: "Worryingly, core inflation, which excludes volatile energy and food prices, increased to 2.8% over 2009 despite the UK experiencing the longest and deepest recession since the Second World War."

Zangana forecasts next month's inflation figure, which will include the effects of VAT being re-instated at 17.5%, will rise above 3%. This will trigger a letter from the Bank of England to the Chancellor to explain why inflation has once again risen above their 3% target.

However he adds: "Whilst the latest inflation estimates are a surprise, we do not expect the Bank to panic and raise rates. This should spell the end of quantitative easing in February, but worries over growth and rising unemployment will keep the monetary policy committee in ‘wait and see' mode for some time."

Ian Kernohan, RLAM's economist, says while markets were braced for a big jump in inflation, the increase was even larger than expected.

"Mr King had flagged the possibility of writing another letter to Mr Darling if CPI exceeded 3%. This now looks very likely and having cut interest rates to 0.5% and pumped £200bn of liquidity into financial markets, the MPC will need to explain how it is going to keep inflation close to target.

"The jump in RPI also creates a very different backdrop to the upcoming spring pay round, compared with a year ago."

Such a dramatic change in the economic landscape will cause concern at the Bank, says Jeremy Cook, chief economist, World First.

"I think that we will see a vote for an interest rate increase from some of the more hawkish members of the MPC in the next two months, with rates actually rising in Q3."