An unexpectedly large increase in the British annual inflation rate to 3.3 per cent was shrugged aside by City financial markets increasingly convinced that the Bank of England may not increase British interest rates any further during the autumn. Equity bulls believe last week's 0.25 point increase in bank "base rates" to 7 per cent may come to be seen as the top of the British interest rate cycle with the next move in rates being downwards, possibly in the new year. The FTSE 100 index stormed ahead, surging 43.9 points to a new all-time "high" of 5,075.8 on the back of firm prices on the gilt-edged securities market. Fading prospects of still higher interest rates put sterling lower on the foreign exchanges.

Monthly figures for retail prices showed an increase in the "headline" rate of retail price index inflation from 2.9 to 3.3 per cent while the underlying rate rose from 2.76 to 3.0 per cent. Although the underlying inflation rate was well outside the government's 2.5 per cent target, economists were relieved that underlying inflationary pressures remain subdued.

Main factors behind the unexpected increase in inflation were higher mortgage interest rates, increases in petrol and tobacco introduced in Chancellor of the Exchequer, Mr Gordon Brown's first budget and the affect of heavy rain in June on seasonal food prices. Traditionally, seasonal food prices decline significantly during the summer. This year, crop yields of fresh fruit suffered from adverse weather conditions, particularly the downpours in June, leading to higher prices of strawberries, plums and peaches . There was a similar upward affect from potato prices which changed little during July in contrast to falls in the same month last year. Inflationary pressures across key areas of consumer spending remain subdued. Consumer demand is strengthening, particularly spending on credit. But sterling's revaluation is encouraging growth of competition from cheap imports thereby keeping price increases in check.