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UK inflation to almost double to 18.6pc, economists warn

The Telegraph logo The Telegraph 22/08/2022 Szu Ping Chan, Tim Wallace
 A shopper checks his change outside a store displaying sale signs in Whitstable, UK, on Tuesday, Aug 16, 2022 - Chris Ratcliffe/ Bloomberg © Chris Ratcliffe/ Bloomberg A shopper checks his change outside a store displaying sale signs in Whitstable, UK, on Tuesday, Aug 16, 2022 - Chris Ratcliffe/ Bloomberg

Inflation will almost double to 18.6pc in the coming months as energy prices continue to soar, Citigroup has warned.

Gas prices jumped by a quarter last week, which the bank said would push up the cost of living at rates not seen since the 1970s.

This will force the Bank of England to raise interest rates to around 7pc if it drives widespread demand for higher wages, according to Citigroup.

It believes the average household energy bill will hit £3,717 a-year in October, before rising to £4,567 in January 2023 and £5,816 in April.

This will push up inflation, as measured by the consumer prices index (CPI) from 10.1pc in July to 18.6pc in January.

It would represent the highest rate since 1976, when a sterling crisis forced the government to seek a bailout from the International Monetary Fund (IMF).

Citigroup expects the retail prices index (RPI) measure of inflation, which is not classified as an official statistic, but is linked to rises in rail fares, air passenger duty, mobile phone tariffs and about a quarter of UK government debt interest, to hit 21.4pc next January.

Benjamin Nabarro, an economist at Citi, said higher inflation for longer would force the Bank of England to act more forcefully.

Citigroup does not expect inflation to drop below the Bank of England's 2pc target until the middle of 2024.

"With inflation now set to peak substantially higher than the 13pc forecast in August, we expect the [Bank] will conclude the risks surrounding more persistent inflation have intensified," said Mr Nabarro. "This means getting rates well into restrictive territory, and quickly."

While Citi expects higher prices to lead to a rise in unemployment, which will cap rate rises to 3pc, from a current level of 1.75pc, Mr Nabarro added: "Should signs of more embedded inflation emerge, we think Bank Rate of 6-7pc will be required to bring inflation dynamics under control."

Supply cuts from Russia to Germany via the Nordstream 1 pipeline, which carries gas to Europe's biggest economy, and a continued heatwave has led to intermittent supply and soaring prices. Electricity prices jumped 7pc last week.

Tory leadership rivals Liz Truss and Rishi Sunak have pledged to offer more financial support to struggling households this winter.

But Citi said a £300 reduction in energy bills proposed by frontrunner Ms Truss by scrapping green levies and VAT on energy bills would provide little support for households faced with a doubling in energy costs.

Mr Nabarro said calls for more support were “deafening by the day”, adding that the Government will need to provide at least £40bn in additional financial measures.

This is almost triple the current package announced by former chancellor Mr Sunak, which will cut £400 off all energy bills this winter, and provide extra targeted support to those most in need.

"In reality any government response to this is likely to involve substantially more fiscal firepower. Offsetting the energy increase in full would cost around £30bn for the coming six months, or 1.4pc of gross domestic product (GDP)," said Citi.

Investec said last week that shielding households from the full increase in energy price rises this autumn and winter would cost £62bn.

Mr Nabarro said: “For now, we think Truss’s comments point to only a limited offset for headline inflation. Though the risks remain skewed towards further support."

It came as the Office for National Statistics (ONS) revealed the economy is smaller than expected as the hit from Covid in 2020 was larger than previously realised. GDP shrank by 11pc in the year, officials now estimate, marking a larger fall than the 9.3pc drop recorded earlier.

In part this is because the scale of inflation had not been fully appreciated. Rising prices in healthcare meant the NHS’s enormous spending did not go as far as hoped, while retailers also sold fewer goods than customers’ heavy spending might have implied.

However, manufacturers' output edged up in the year, rather than plunging by 8.7pc as initially thought, as officials discovered an unexpectedly sharp drop in the price of some components used by factories.

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