A leading independent forecaster has said that the Bank of England should hold its base interest rate
low this year, despite mounting pressures for a hike.

The non-governmental ITEM Club (‘Independent Treasury Economic Model’), which is sponsored by
respected business analysts Ernst & Young, uses the same economic models for its forecasts as those
used by HM Treasury and the Office for Budget Responsibility. In their latest report, they have given
a stark warning that “any increase in Bank base rate would be premature and could endanger the
economic recovery in what is going to be a difficult 12 months.”

The group acknowledges that the Consumer Price Index (the key measure of inflation) is likely
to peak at more than 4% by February – double the Bank’s stated target of 2% – and that this will
increase pressures on the Bank’s Monetary Policy Committee (MPC) to start raising interest rates.

However, the report urges the MPC to “hold its nerve” – predicting that by 2012 inflation is likely to
fall back to around 2%. The chief economic adviser to the group, Peter Spencer, commented:

“It’s going to be a tense start to 2011. The fiscal retrenchment will keep GDP subdued, while
commodity price rises and the VAT hike will push inflation close to 4% and leave the MPC agonising
over whether to increase the Bank base rate.

“However it’s vital that the MPC stands firm. These are temporary pressures, domestic cost inflation
remains low and CPI inflation will come back to heel in 2012 once the VAT increase falls out of the
figures next January. A premature rate rise would boost the pound, weakening the UK’s ability to
increase its exports – particularly into the emerging markets – which we have long maintained hold
the key to the UK’s economic recovery.”

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