Inflation will hit the Bank of England's (BoE) 2 per cent target in two years as long as interest rates rise in line with the gradual upward path the market currently expects, the central bank predicted today.
In its quarterly Inflation Report issued a week after the central bank raised interest rates to 4.75 per cent, the BoE said that its forecasts for both GDP growth and inflation were similar to those it made in May.
The BoE said that assuming rates rose in line with market expectations inflation would ease in the near-term before rising to target at the end of two years.
Inflation in the third year is then seen flattening off as demand eases.
The market expects rates to hit 4.9 per cent in the fourth quarter of this year and to reach only 5.1 per cent in two years' time.
The pound slipped against the dollar and the euro while short sterling interest futures trimmed losses as dealers reckoned the report was not as hawkish as some had feared.
Analysts were divided over the implications of the report for interest rates, which have already been increased by 125 basis points since November.
Speaking at a news conference after the report waspublished, BoE Governor Mr Mervyn King said the forecasts pointed to steady growth and low inflation but a number of uncertainties remain.
"These risks mean that it is particularly difficult to be confident about where the future path of output, inflation and interest rates will lie," said Mr King.