Rate rises on hold as shoppers stay away

Expectations that interest rates would rise next month, after yesterday's reprieve from the Bank of England, were confounded last night with news of a tough time for retailers at Christmas.

Retail sales fell for the first time in nine months and only a last-minute spending spree saved stores from an even more disastrous December, according to the British Retail Consortium.

With retailers reporting that the willingness to spend had waned markedly since the summer, the downbeat survey appeared to vindicate the decision of the Bank's monetary policy committee to leave interest rates unchanged at 3.75% for a second month.

The evidence from the BRC that sales, measured on a like-for-like basis - stripping out the effects of an increase in floorspace - were down by 0.2% in December came after the conclusion of the MPC's two-day meeting.

A sharp slowdown in the quarterly growth rate from 1.5% in the three months to November to 0.5% in the three months to December may force the City to reassess its view that the Bank would increase borrowing costs to 4% in February.

Sterling rose on the foreign exchange in anticipation of higher rates, hitting a fresh 11-year-high of $1.83 against the dollar after the Bank's announcement. The euro also appreciated strongly against the dollar following the European Central Bank's decision to leave interest rates in the single-currency zone at 2%.

Analysts said remarks by the ECB's president, Jean-Claude Trichet, suggesting that the bank was unworried by the rise of the euro to record levels had underpinned the single currency, which last night was trading at above $1.27.

Germany's disappointment at the lack of action by the ECB was expressed by its economic minister, Wolfgang Clement, who threw his weight behind calls for lower interest rates to stem the euro's rise.

Mr Clement said he favoured a cut in borrowing costs given the current state of the euro-zone economy, adding: "I had hoped that there would have already been a signal today. It is not yet a catastrophe but the situation is becoming more tense."

Concern about the weakness of the dollar is likely to be high on the agenda when finance ministers and central bank governors from the G7 meet in Florida next month.

Bill Moyes, director general of the BRC, said: "The Christmas sales figures were disappointing for many retailers. The weekly profile of the month shows exactly what many retailers expected. Christmas did not start in earnest until the 19th. The last-minute surge was not enough to make up for a slow start to the festive season."

Industry welcomed the MPC's decision. Ian McCafferty, chief economist at the CBI, said: "Growth is still focused on a few sectors of the economy, the mood of the consumer through Christmas and the new year is unclear, and business confidence remains relatively fragile."

Steve Radley, chief economist at the manufacturers' organisation, the EEF, said: "The pound's strength against the dollar reduces the prospects of rising inflation and gives the MPC some breathing space before making its next move. By holding off from raising rates, it may help to slow the pound's rise against the dollar."