• Today’s decision by the Monetary Policy Committee to leave interest rates on hold at 5.75% does not signal that interest rates have peaked. Instead, the Committee is just pausing for breath. I believe that interest rates will rise to 6%, perhaps as soon as next month.
• The latest data suggest that the five interest rate rises seen in the last 12 months so far have had little impact on the economy. Although the Nationwide reported that house prices rose by just 0.1% in July, prices are still increasing at an annual rate of 10%. And the number of new mortgages approved for house purchase held steady at 114,000 in June.
• Moreover, despite the wet weather, retail sales have remained reasonably healthy. The CBI distributive trades survey revealed a rise in reported sales from +17 in June to +18 in July. And overall GDP growth is estimated to have accelerated from 0.7% in Q1 to 0.8% in Q2.
• Admittedly, the recent floods may place a dent in activity in the short-term. However, agriculture – the sector hit the hardest – makes up just 1% of total economic output. And the regions affected the most contribute relatively little to output too. As such, the impact on overall economic activity is likely to be very minor.
• Instead, the floods represent a greater threat to the inflation outlook, with the loss of crops and a fall in the output of dairy farmers likely to result in higher food prices. Taken together with the recent rise in the oil price back towards last summer’s record high of $79 per barrel, the prospect of a further rise in food price inflation means that CPI inflation is now less likely to fall back to the 2% target as quickly as the MPC had expected.
• The longer that inflation stays above 2% – or perhaps even reverses some of the fall from 3.1% in March to 2.4% in June – the more likely it is that higher inflation will become ingrained in the public’s expectations. Indeed, the latest YouGov/Citigroup survey showed that the public’s inflation expectations rose from 2.4% in June to 2.5% in July.
• The upshot is that the MPC’s work is not yet done. I think that the Committee will raise interest rates at least once more to 6%. And it is possible that interest rates will eventually have to rise above 6% in order to slow economic activity and bring the public’s inflation expectations back in line with the 2% inflation target.

Notes to editors
This press release has been prepared by Roger Bootle, Economic Adviser to Deloitte.  If you have any questions regarding the views in it, please contact Roger Bootle directly on 020 7823 5000 or via email on business@capitaleconomics.com.