Spending slump to keep interest rates on hold

Consumer spending slowed even more sharply than first thought in the last quarter of 2004, data showed yesterday. The figures suggest that the Bank of England's interest rate rises last year have brought the consumer juggernaut to a halt.

Together with other figures showing that the manufacturing sector is still struggling, City economists said the Bank would be in no hurry to raise rates again next month even though two monetary policy committee members voted for an increase this month.

The Office for National Statistics said that while overall economic growth in October to December was unrevised at 0.7% on the quarter, leaving the full-year figure at 3.1%, it had cut in half its original estimate for growth in household spending to just 0.2%. That was down from 0.7% in the third quarter and the weakest in almost two years.

Confirming gloomy trading statements yesterday from retailers such as Next and Wool worths, the ONS said there had been a build up of unsold stock across the retail sector as a whole. Retail sales data released last week showed the weakest three-monthly performance in almost two years while car sales have fallen sharply.

The minutes of the latest MPC meeting, released yesterday, showed the nine-strong committee well aware of the fragility of consumer spending.

It identified the possibility of a sharp slowdown in consumption as the "first key risk" to its forecast of a robust economy pushing inflation gradually up over the next two years.

While two members - Paul Tucker and Sir Andrew Large - voted for a rate rise at the MPC meeting on March 9-10, the other seven felt that the "balance of risks remained sufficiently to the downside in the near term to justify maintaining the Bank's repo rate at its current level", according to the minutes.

The MPC has left its key repo rate at 4.75% since last August and the City is divided as to whether it will raise rates further or begin to cut them later in the year in response to weaker consumer spending and a softening housing market. But the minutes showed the MPC was still concerned that inflation and wage pressures could pick up, requiring a rate rise at some point.

John Butler, economist at HSBC, said: "All this illustrates the worst-case scenario for the UK economy and what must be the key concern for the Bank of England. If inflation starts to respond to the lack of spare capacity, that may force interest rate expectations to rise and MPC to hike further... and that may eventually trigger a sharp correction in what is increasingly a fragile consumer."

Separately, the CBI's monthly survey on manufacturing showed the sector continuing to suffer under the weight of a strong pound and weak demand in the eurozone. Both orders and output expectations fell sharply.

The ONS also issued data showing the balance of payments deficit unexpectedly narrowed to £5bn in the fourth quarter from a record £9.4bn shortfall in the third quarter. While the goods trade deficit was still large, there were bigger surpluses on trade in services and investment income.

For the year as a whole, there was a deficit of £26bn, up from £18bn the year before. The new figure is equivalent to 2.2% of national income, considerably smaller than the in the US.