The Bank of England has cut its growth forecasts for the U.K. economy and admitted that inflation will probably remain above the government's target both this year and next.
Governor Mervyn King said the short-term outlook for the U.K. had deteriorated since the Bank issued its quarterly inflation report in February. Inflation is now likely to hit 5% in the coming months, in a further blow to households.
He insisted, though, that the medium-term "big picture" had not changed significantly.
The Bank estimated that Britain will grow by around 1.7% during 2011, down from February's forecast of 2% growth and in line with the latest forecasts from the independent Office for Budget Responsibility.
In 2012, GDP is expected to be around 2.2%, down from an earlier estimate of close to 3%. This is weaker than the OBR forecast of 2.5% growth.
On inflation, King said that higher commodity and import prices, and the increase in the standard rate of VAT, was pushing up the cost of living more rapidly than expected in February. He said that higher utility bills were likely to drive the consumer prices index (CPI) up to 5% this year.
CPI, which fell back to 4% last month, was likely to remain above the 2% target until the end of 2012, the Bank predicted. Three months ago it had forecast that CPI would drop back to 2% next year.
King added that such forecasts contained "a great deal of uncertainty", given the volatility of commodity prices. After the forecasts were drawn up, the Bank watched the oil price plunge by 10% last Friday, suggesting an easing of inflationary pressures, only for it to rally at the start of this week.
King predicted that the recovery from recession was also likely to be volatile, but his long-term view of economic growth prospects had not changed markedly.
The pound strengthened against the dollar after the report was published, gaining around half a cent to $1.646 U.S. Traders had expected that the Bank would cut its growth forecasts, especially after the U.K. economy grew by just 0.5% in the first three months of 2011 compared with the Bank's forecast of a 0.8% expansion.
