UPDATE 4-Shock UK inflation fall eases pressure on BoE

* March CPI rate falls to 4.0 pct from 4.4 pct in Feb

* BoE May hike unlikely after drop, bets move to August

* Retail sales show worst drop in at least 16 years in March

* UK trade deficit narrowest since Feb 2010

(Repeats with links to graphics)

By David Milliken and Peter Griffiths

LONDON, April 12 (Reuters) – British inflation eased in
March for the first time since last summer as grocers cut food
prices, reducing the chance of a Bank of England rate hike in
May and giving it leeway to support the still shaky economy.

The unexpected drop in annual inflation to 4.0 percent from
4.4 percent in February — together with a sharp decline in
retail sales — gives ammunition to those policymakers who want
to see the economy on a solid footing before tackling inflation.

Sterling fell and gilt futures extended an earlier rally
that had been driven by speculation about a soft inflation
number. [ID:nLDE73B106]

“It should help to stave off a rate rise in May,” said
Philip Shaw, an economist at Investec. “But while this is
welcome, this is just one battle in what will be a long tussle.
It’s still possible inflation will rise to 5 percent over the
course of the year.”

Economists at BNP Paribas pushed back their call for a first
BoE rate increase from May to August, in line with markets which
assign a probability of some 80 percent to an August move.

Last week, the BoE opted to hold rates at a record low of
0.5 percent, breaking step with the European Central Bank which
raised rates for the first time since the financial crisis.
[ID:nLDE7091HX] Britain’s inflation rate is well above the euro
zone’s and the UK recovery is more shaky than that of France or
Germany. [ID:nLDE7091HX]

The British government is hoping that rates can stay low as
its spending cuts — launched to reduce the large public deficit
— have yet to take full effect. [ID:nRISKGB]

“The Bank of England has kept its nerve and they deserve
credit for that,” Britain’s Business Secretary Vince Cable told
Sky News. “They’ve kept interest rates low and that’s what the
economy needs.”
<^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^

Graphic-UK inflation data:

http://r.reuters.com/fec98r

Instant view: [ID:nAHLBFE7FJ]
^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^> Britain’s Office for National Statistics (ONS) said it was
investigating rumours that the 4.0 percent CPI figure had been
circulating in the markets before the official data release.

Before the data was released at 0830 GMT, short sterling
interest rate futures rose, with traders pointing to market talk
that the rate would be well below economists’ forecasts.
[ID:nLAK002769]

HIGH STREET WOES

The fall in the CPI rate last month was aided by a
non-seasonally adjusted 1.4 percent month-on-month drop in the
cost of food and non-alcoholic drinks, which the ONS said was
driven by supermarket discounting.

The BoE faces a dilemma as it tries to tame inflation —
still at twice its 2 percent target — without derailing a
fragile recovery after the economy contracted late last year.
[ID:nL9E7FB000]

Britain’s high street is suffering from a poisonous mix of a
rising cost of living, higher taxes and downbeat consumer
morale, and business leaders urged the BoE to stay away from
raising borrowing costs too soon.

The British Retail Consortium said total sales, a measure
which includes new floorspace, fell by 1.9 percent in March ,
the worst drop since the BRC began collecting the data in 1995.
Like-for-like sales were 3.5 percent lower on the year.

“This is strong evidence of the pressure customers and
traders are under,” said BRC Director General Stephen Robertson.
“Uncomfortably high inflation and low wage growth have produced
the first year-on-year fall in disposable incomes for 30 years.”

The trade body urged policymakers to delay raising rates,
saying a hike “would do more harm than good”.

Companies such as Dixons (DXNS.L: Quote, Profile, Research), Britain’s biggest
electricals retailer, electricals group Kesa (KESA.L: Quote, Profile, Research), carpet
seller Carpetright (CATVU.L: Quote, Profile, Research) and car parts retailer Halfords
(HFD.L: Quote, Profile, Research) have warned about the tough outlook.

GROWTH

The sales slump came on top of a recent surprise drop in
industrial production and a weak rebound in construction in
February, casting doubts about the strength of the recovery.

Consumer price inflation has been above the Bank of
England’s 2 percent target since December 2009, driven higher by
a mix of a weak exchange rate, rising commodity prices and two
successive annual increases in sales tax.

But economists say the majority of policymakers who voted
for steady rates in past months would want to see a strong
economic rebound before tightening policy.

“We suggest a GDP figure of around 1 percent
quarter-on-quarter and PMIs in excess of 55 would be required to
get a majority in favour of a very modest hike,” ING analyst
James Knightley said.

In some good news for the economy, separate ONS data showed
that Britain’s trade deficit for goods and services fell to its
smallest level since February 2010. That suggests net trade will
provide a bigger contribution to first-quarter GDP figures due
on April 27.

The ONS said Britain’s total global trade deficit fell to
2.443 billion pounds ($4 billion) in February from 3.858 billion
pounds in January, driven by an unexpected fall in the deficit
for goods.

Manufacturers have reported stronger exports for several
months, but this has been slow to show up in official data.
(Editing by Stephen Nisbet and Patrick Graham)

UPDATE 4-Shock UK inflation fall eases pressure on BoE