Inflation goal under threat, CBI warns

A shock forecast from the Confederation of British Industry last night claimed that the Government will breach its inflation target even if interest rates are raised by 1 per cent this year and there are no tax cuts in the November Budget.

Warning of "clear upside risks" to the outlook for inflation, the employers' organisation said interest rates might have to rise still further if the Government does make tax cuts.

Since last February, the CBI has lifted its forecast for underlying inflation (the increase in the retail price index less mortgage interest payments) from 2.6 to 3.1 per cent by the end of the year and from 2.5 to 2.8 per cent by the end of 1996. This would mean that the Government would miss its inflation target of 1-2.5 per cent by the end of the Parliament.

In addition to the political risk that interest rates would have to rise still further to offset tax cuts, the CBI warned that continuing weakness in sterling could also result in "a more severe, and earlier tightening of monetary policy".

Overall, the CBI saw the economy as continuing to expand above its trend rate of growth, with GDP increasing at 3.3 per cent in 1995 and 2.8 per cent in 1996. Strong investment and net exports will make up for sluggish consumption.

The forecast was made as the CBI released its latest reading of the pulse of manufacturing in May. This showed a bounce-back in expectations of output in the next four months but no return to the very high price expectations seen earlier this year.

The CBI's survey, which is keenly watched by Treasury officials, is unlikely to sway the Chancellor into conceding an interest-rate increase when he next meets the Governor of the Bank of England on 7 June.

According to Kate Barker, the CBI's chief economic adviser, "it supports the view that the next interest-rate rise could be delayed a little".

Recovery in output expectations points to continued buoyancy in manufacturing. A further indicator of this is that the number of companies considering the current level of finished goods stocks to be sufficient was at its lowest level for more than six years.

On the other hand, price expectations have clearly moderated. The CBI now expects factory-gate inflation to peak at 4 per cent in the current quarter of 1995.

The survey coincided with the release of official statistics showing that manufacturing investment fell by 3 per cent in the first quarter. Discrepancy between official figures and the evidence of surveys is now the subject of urgent discussions with the Central Statistical Office, Sudhir Junankar, the CBI's associate director, revealed.

CBI surveys among employers at a senior level show that "the recovery is still alive and kicking", he said. By contrast, official data show stagnant manufacturing output.