Inflation Fall May Stem Pressure For Early Tightening Of Monetary Policy

The chances of the Bank of England raising interest rates soon may have receded after the inflation rate fell to a five-year low.

Data published by the Office For National Statistics indicated that the Consumer Prices Index (CPI) measure of inflation had fallen from 1.5 per cent in August to 1.2 per cent.

The study revealed that the biggest contributors to the fall in CPI were drops in transport costs, mainly sea and air fares, while prices for recreational goods were also down. Falling food and motor fuel bills were other major contributors, as inflation would be a third higher if these two factors were discounted.

By contrast, a third of the inflation seen over the 12-month period was created by housing and household goods (including utility bills).

Whatever the sum of the various causes, the low inflation rate may have two significant benefits for SMEs and other firms.

Firstly, it suggests inflationary pressures may be low enough for the Bank of England to hold off raising the base rate for some time yet, meaning the repayments SMEs have to make on their borrowing may be kept down for longer than previously expected.

This may well have influenced the decision by the Monetary Policy Committee (MPC) to hold down the base rate at 0.5 per cent at its meeting this month. However, it will not become clear how much support there was for a rate rise until the minutes of the meeting are published on October 22nd. Last month, only two supported a rate rise.

A second benefit of low inflation is that it restricts the rise in the cost of living and thus ameliorates the impact of low pay rises, thus helping prevent consumers from seeing a major fall in their spending power.

Moreover, as employment levels rise, overall spending power will increase as people move from having very low incomes due to being on benefits to having the greater spending power of a working wage or salary.

Indeed, the latest official figures have shown unemployment has now fallen below the two million mark to 1.97 million, with a new record number in employment of 30.76 million.

Expert Opinion

Many SMEs will be watching the trends in the CPI very closely, with yet another fall in inflation meaning that spending power may increase for consumers. <br/> <br/>"In addition, small businesses will be interested in the knock-on impact on interest rates, which would in turn affect future borrowing and potential investment. <br/> <br/>"It will be interesting to see how this downward trend develops across the coming months and the ongoing implications this may have on small firms which are looking to develop their offerings and services." Fergal Dowling - Partner