Inflation at lowest level for 14 months

The rate of inflation fell to a 14-month low last month and is expected to hit the Government's 2% target by the end of the year in a further sign that the crippling consumer spending squeeze is loosening its grip.

The consumer prices index (CPI) rate of inflation fell to 3.6% last month, from 4.2% in December, as the previous year's VAT hike from 17.5% to 20% fell out of the year-on-year comparison.

In a letter of explanation to the Chancellor, Bank of England governor Sir Mervyn King said further falls in petrol and utility prices are on the way and added: "The effect of the factors that temporarily pushed up inflation is now waning."

But economists warned that the softer cost of living is likely to weigh down on already sluggish wage growth, which at 1.9% is nearly half the rate of inflation.

TUC general secretary Brendan Barber said: "With prices still increasing twice as fast as wages, workers are still getting poorer month by month while high unemployment and wage stagnation persists."

The CPI rate has now fallen 1.2 percentage points since November, the largest fall over two consecutive months in just over three years.

The figures come a day ahead of the Bank's quarterly inflation report, which is expected to confirm its belief that inflation will hit the 2% target and possibly fall further in early 2013.

The data add further weight to the Bank's decision last week to pump an extra £50 billion into the economy through its quantitative easing programme.

James Knightley, analyst at ING Bank, said CPI could slide far below target to nearly 1% as early as the final three months of 2012 but warned this could have a negative impact on wage growth.

Lower agricultural prices and falling wholesale gas costs should lead to further declines in food and utility bills, he added.

He said: "Inflation expectations tend to follow actual inflation and, given that the CPI appears to be heading sharply lower, we expect inflation expectations to do likewise.

"This should further limit the risk of above-target inflation becoming entrenched, with workers unlikely, and unable given rising unemployment, to push for larger pay rises."

The VAT effect had a pronounced impact on transport costs, which applied the greatest downward pressure to overall prices in January, as they fell 0.7%.

The fall was also driven by softer rises in the cost of crude oil, which led to lower price increases in petrol and diesel, new car sales and maintenance.

The average price of petrol at the pumps in January rose by 0.6p per litre, compared with a 5.4p rise last year, to £1.33 per litre. Diesel was up 0.7p, compared with a 5.8p rise, at £1.41 per litre.

The VAT hike had a significant impact on the prices charged by restaurants and hotels, with costs little changed this year.

Food prices were broadly flat on the month and had a slight downward impact on the overall rate of inflation.

But a softer drop in clothing and footwear prices provided some resistance to the fall in the overall rate of inflation.

Clothing costs fell by 4.9% in January, compared with a 5.9% drop in 2011, as discounting and promotion were introduced earlier to tempt hard-pressed consumers in the run-up to Christmas.

Other measures of inflation also fell, with the retail prices index (RPI) dropping to 3.9% in January from 4.8% in December, its lowest level in just under two years.

A Treasury spokesman said: "Inflation fell significantly in January for the second month in a row, which is good news for family budgets. The Bank of England and other forecasters expect inflation to keep falling through this year, providing additional relief."

PA