By Andy Bruce and David Milliken
LONDON (Reuters) - Britain was the only country in western Europe with double-digit inflation in March after it fell less than expected, official data showed on Wednesday, bolstering bets that the Bank of England will raise interest rates again in May.
Consumer price inflation (CPI) dropped to an annual rate of 10.1%, the Office for National Statistics (ONS) said, down from 10.4% in February but well above the 9.8% forecast by economists polled by Reuters and the 9.2% predicted by the BoE in February.
Inflation, which hit a 41-year high of 11.1% in October, continued to eat into the spending power of workers whose pay is rising by less.
Prices for food and non-alcoholic drinks were 19.1% higher in March than a year earlier - the biggest such increase since August 1977 - which the ONS said reflected higher costs for biscuits and cakes, and to a lesser extent chocolate and fruit. Milk and sugar cost around 40% more than a year ago.
Britain's headline inflation rate is now the highest in western Europe and compares with an average of 6.9% in the euro zone and 5.0% in the United States. Austria recorded a higher inflation rate than Britain in February.
The reading underlined expectations that Britain will suffer high inflation for longer than its peers due to its reliance on natural gas for heating and electricity, and the structure of government subsidies that smoothed out price changes.
The Bank of England also worries that high inflation might lead to a lasting upward shift in wage demands and businesses' pricing strategies, exacerbated by a post-pandemic reduction in its labour force and trade and labour market frictions caused by Brexit.
Core inflation - which strips out volatile energy and food prices - failed to fall as expected and instead held at 6.2%, while services inflation - which the BoE views as a proxy for domestic price pressures - held at 6.6%.
"It's now clear the UK has an inflation problem that is worse and more persistent than in Europe and the U.S.," said Ed Monk, associate director of personal investing at asset manager Fidelity International.
"Price rises here are proving more difficult to neutralise and the Bank of England will almost certainly add at least one more quarter-point hike to borrowing costs."
Earlier this month, the BoE's chief economist, Huw Pill, said the central bank still needed to "see the job through" on monetary policy tightening, though he saw some signs of falling inflation pressures.
Investors now fully price in a quarter-point interest rate rise to 4.25% on May 11 after the BoE's next meeting - up from an 80% chance on Tuesday - and expect rates to peak at 5% by September, according to futures markets.
Sterling initially rallied on the data, before falling back, while the prices of two- and five-year British government bonds fell to their lowest since early March.
GRAPHIC-Britain now has western Europe's highest inflation rate
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POLITICAL PRESSURE
High inflation is a problem for Britain's government as well as the BoE, which forecast in February that inflation would be below 4% by the end of the year. Prime Minister Rishi Sunak promised at the start of 2023 to halve inflation, which would require it to fall to around 5% by the end of the year.
"These figures reaffirm exactly why we must continue with our efforts to drive down inflation so we can ease pressure on families and businesses," finance minister Jeremy Hunt said.
Inflation has also spurred a wave of industrial action in the public sector, most recently among junior doctors who want a 35% pay rise to compensate for more than a decade of pay not keeping up with their preferred inflation gauge.
Last week the International Monetary Fund forecast that inflation would average 6.8% in Britain this year - the highest of any major advanced economy, though not much above the rate of 6.2% forecast for Germany.
CPI has regularly surprised on the upside in Britain, although the BoE and most economists remain confident that it will begin to fall sharply from the current quarter, as last year's big energy price rises following Russia's invasion of Ukraine drop out of annual comparisons.
"Wholesale gas prices are 60% down on a year ago, while the price of oil is down by 30%, which should drive a further moderation in inflation over the coming months," said Yael Selfin, chief economist at KPMG UK.
Producer price inflation - which measures changes in prices charged and paid by manufacturers and often leads changes in CPI - tumbled in March due to lower oil prices.
Producer output prices rose by the smallest amount since October 2021, up 8.7% on the year after an 11.9% rise in February, while raw material costs rose 7.6%, the smallest increase since March 2021.
GRAPHIC-UK food and drink inflation rises to highest since 1977
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