BRITISH inflation may hit 5pc while its economy continues to struggle, Bank of England governor Mervyn King said yesterday.
Mr King said inflation remains "uncomfortably high" while his officials signaled they may need to raise interest rates later this year to fight price rises.
Inflation "remains uncomfortably high and well above the 2pc target. And there is a good chance that if utility prices rise further later in the year, inflation will reach 5pc," he told reporters yesterday.
Britain is the Republic's largest trading partner and is a particularly important export market for many small companies and farmers. Inflation there has been rising rapidly as the Bank of England effectively prints pound notes under its quantitative easing policy. Printing money almost inevitably leads to inflation.
Britain's economic recovery has stalled in the last six months and massive public spending cuts that are now starting to bite pose a serious threat to consumer demand. Retailers Sainsbury's and Kesa both warned of a challenging year ahead as consumers tightened their belts.
The road to economic recovery will be rocky but the coalition government is as committed as ever to slashing a record budget deficit, Chancellor George Osborne said. Mr Osborne said the government was on track to all but eliminate a deficit running at close to 10pc of national output over four years and did not see the need to further hike taxes or cut spending.
The Bank of England revised its forecasts downwards, predicting there would be a more gradual recovery in consumption and a less-pronounced boost from net exports than previously expected.
Inflation is persisting in many parts of the world, putting pressure on central banks to withdraw stimulus and raise interest rates. In China, inflation held above 5pc in April and lending exceeded analysts' estimates, according to reports yesterday.
Germany's rate jumped to 2.7pc, more than initially estimated, according to separate data. That will pile pressure on the European Central Bank to hike interest rates for eurozone countries.
The problem is leaving many policy makers confused. The Bank of England said yesterday there was "a high degree of uncertainty, and an unusually wide range of views among committee members, about the strength of these various forces, and therefore around the overall outlook for inflation."
The bank said while risks to growth are "skewed to the downside", surveys and growth in employment in recent months "suggest that underlying activity may have been stronger than indicated by official output data".
Temporary factors, such as the additional bank holiday for the royal wedding last month and the impact from the Japanese earthquake and tsunami, "are likely to add some volatility".
The pound gained against the euro and the dollar after the Bank of England said it sees inflation "markedly higher" in the near term, boosting speculation that borrowing costs will rise from record low levels.
"The reaction of the pound is predominantly due to the admission that inflation is going to hit 5pc at some point this year," said Elizabeth Gregory, a Geneva-based market strategist at Swissquote Bank. "The Bank of England doesn't have the luxury of waiting for growth to solidify if it wants to maintain its credibility. They're going to have to hike by at least the third quarter and possibly again in the fourth quarter."