Fears grow of return to ’ 70s-style stagflation

SURGING fuel costs pushed headline inflation to 2.4pc in August, the highest level since the modern series of records was started in 1997.

The consumer price index ticked up from 2.3pc in July, according to the Office for National Statistics, though price pressures eased slightly once food and energy were stripped out.

The relentless upward creep in the CPI renewed a fi erce debate yesterday among economists over the possible risk of early 1970s “ stagflation” taking root.

Inflation is now well above the Bank’s 2pc target and risks breaching the sacrosanct 3pc ceiling next month as gas and electricity prices kick in, posing a major threat to the Government’s credibility.

British Gas is planning to raise prices for households by 14.2pc next week, in line with similar increases by Powergen and EDF.

Petrol prices are expected to jump sharply for the full month of September following the effect of Hurricane Katrina on US refi neries.

The Bank of England’s quarterly report last month forecast that inflation would continue above 2pc over the short run. Even so, the ominous headline data may strengthen the hand of Mervyn King, the Bank’s hawkish Governor.

He took the unprecedented step of voting with the minority in the monetary policy committee in August against a quarter-point cut to 4.5pc.

Tim Congdon, a former adviser to the Bank, said CPI inflation was “likely” to hit 2.8- 2.9pc in September as the full effects of global energy and commodity inflation fi ltered through.

“ A lot of people are starting to get worried that we’ll soon break through the 3pc limit. At that point the Bank has to write a letter explaining itself to the Chancellor, so this is no longer something that can be swept under the carpet,” he said.

“The Bank has done a good job over the years but it’s now taking risks with inflation. M4 is growing at 11pc a year and if this goes on, inflation will be back to 5pc within two or three years,” he said.

Geoffrey Dicks, chief economist at the Royal Bank of Scotland, said the picture looked more benign once energy was stripped out. “The most encouraging sign is that core inflation is down from 1.8 to 1.7pc, so this is really just about fuel costs. We expect the CPI to peak next month at 2.6pc but after that it could unwind quite quickly.

“There’s a big debate going on over whether this oil shock is going to cause inflation or deflation, and we think the risk is slightly weighted towards deflation,” he said.

Lorenzo Codogno, an economist at Bank of America, said Britain was on track for a soft landing. ‘‘I’m not really worried because the earnings data is already softening and sooner or later the slowdown in the economy will bring down inflation,” he said.

Fresh wages data today may shed light on whether inflationary pressure is starting to spread into pay rises. Earnings growth has slipped from 4.5pc to near 4pc over the past six months.

John Butler, chief economist at HSBC, forecast that inflation would peak at 2.7pc but played down the longterm risk. ‘‘The rise in inflation in August was purely energy-related. As yet there are few signs of any secondround inflationary pressures,’’ he said.