Inflation-wary Bank of England set to halt money-printing press

The Bank of England is poised to turn off its money-printing press next month, fearful that inflation will now be greater than expected and prepared to gamble that Britain's economic recovery remains on track.

The Bank of England in the City of London 

Minutes of the Bank's April meeting, combined with a stark warning on inflation from deputy governor Paul Tucker on the same day, signalled a sharp change in tone that could bring forward expectations for interest rate rises.

The pound shot up to a 19-month high against the euro and against a trade-weighted basket.

Evidence that the UK economy may be on the mend - something that would make further BoE stimulus unnecessary - came from government data showing an unexpected fall in unemployment in the three months to February.

Britain's economy has not yet recovered from the 2007-2009 crisis, but the central bank said that while official figures could well show that the country had slipped back into recession, business surveys pointed to underlying growth.

Tucker, meanwhile, said that recent inflation news had been "bad", including data on Tuesday showing higher fuel, food and clothing costs had pushed inflation higher for the first time in six months.

It was a message echoed in the minutes, in which the long-standing flag-bearer for further bank asset-buying, or quantitative easing, Adam Posen, dropped his call for more QE, leaving only one policymaker supporting more potentially inflationary stimulus.

"Monetary policy will underpin the recovery so long as that remains consistent with anchoring inflation expectations in line with achieving the 2 percent target over the medium run," Tucker said in a speech. "We shall not let that slip.

Reuters polls up until now have shown most economists do not expect a rate rise before 2014, but Wednesday's joint events could shift this.

"The Tucker speech was the big thing and the QE vote in the minutes goes with the grain of that," said Ross Walker of RBS.

"Tucker talked about the risks of inflation being above 3 percent going into the second half of this year. In February they had forecast inflation at just over 2.5 percent in Q3, so to get an outturn that's closer to 3 percent would be a big miss."

ALL CHANGE

British inflation hit a three-year high of 5.2 percent in September, and at its February meeting the BoE had forecast it would drop below its 2 percent target by the end of the year.

However, inflation data on Tuesday showed that it nudged higher to 3.5 percent in March, the first increase in six months, due to higher fuel, food and clothing costs.

In Wednesday's minutes the BoE said inflation was likely to be higher than forecast in the short term - and more critically, there was a greater risk that above-target inflation could persist into the medium term.

"All the signs now are that the MPC will pause on asset purchases from May," said David Tinsley, UK economist at BNP Paribas. "They may come back to QE later this year should the economy flag, but for now it looks like the output/inflation outlook has shifted."

The government may be uneasy about the BoE's apparent intention not to raise its 325 billion pound target for quantitative easing next month, when the 50 billion pounds of gilt purchases approved in February are complete.

Monetary policy has been an important plank supporting Britain's economy at a time when hefty public spending cuts are underway, and the BoE itself said that official growth data next week may well show the economy is in a technical recession.

But the BoE said it placed more weight on survey evidence that a moderate recovery was on track than on data from the Office for National Statistics that it said would probably be distorted by a "perplexing" slump in construction output.

"The sharp falls in construction output in December and January were perplexing, and the Committee was minded not to place much weight on them," the minutes said. "A wide range of survey indicators pointed to a moderate rate of growth in activity in the first half of the year."

The official unemployment data released on Wednesday offered some support to the BoE's view. The headline rate of unemployment, on the internationally comparable ILO measure, fell to 8.3 percent from 8.4 percent, its lowest since the three months to October 2011.

(Additional reporting by Michelle Martin, Olesya Dmitracova, Peter Griffiths and Fiona Shaikh. Editing by Jeremy Gaunt.)

©Reuters