The Bank of England's monetary policy committee voted eight to one to leave interest rates unchanged last month, according to minutes of the meeting published on Wednesday, while official statistics showed growth slowed slightly less than expected in the fourth quarter.
The MPC felt that "the short-run inflation outlook had worsened markedly" as higher commodity prices and a sharp decline in sterling increased the risks of inflation rising further above target.
Those risks offset the possibility that "there could be a much sharper fall in growth" than the Bank's central projection in its November inflation report. Only the persistently dovish David Blanchflower voted for a quarter point cut in rates.
Separately, the Office for National Statistics said gross domestic product grew 0.6 per cent in the fourth quarter, above forecasts for a 0.5 per cent rise, taking growth over the whole of 2007 to 3.1 per cent.
The figures show that the economy slowed less than expected as the credit crunch kicked in, although the deceleration appeared largely due to weakness in financial intermediation.
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Economists said the minutes' hawkish tone, coupled with evidence that growth remained relatively strong at the end of 2007, signalled that the Bank would not cut interest rates as aggressively as the US Federal Reserve, although they still expect the MPC to vote for a quarter point cut to 5.25 per cent in February.
The pound fell 0.2 per cent to $1.9579 against the dollar and dropped 0.6 per cent to Y207.69 against the yen.
"The pace of monetary loosening in 2008 still looks likely to be relatively slow - perhaps one cut per quarter - as the MPC grapples with rising inflation," said Jonthan Loynes at Capital Economics.
Ben Broadbent, economist at Goldman Sachs, said the MPC had never cut rates in a month when it released its Inflation Report unless quarterly GDP growth was below 0.5 per cent. "While we we expect this rule to be broken in February, the chances of 50 basis points look remote," he said.
The minutes' emphasis on rising inflation risks was echoed by Mervyn King, the Bank's governor, on Tuesday when he acknowledged the possibility "that inflation could rise to the level at which I would need to write an open letter of explanation, possibly more than one, to the Chancellor".
But while the Bank accepts that inflation is likely to rise further above its 2 per cent target in the coming months, it considers it crucial for the credibility of monetary policy to keep medium-term expectations of inflation in check.
"A second period during which inflation was significantly above target, so soon after the one in Spring 2007, might be more likely to lead people to revise up their expectations of future inflation, particularly if the rise in inflation persisted for longer," the minutes said.
Michael Saunders, economist at Citigroup, said the MPC was likely to signal in its February 13 inflation report "that easing will be relatively gradual compared to the deterioration in growth prospects, and will not be pre-emptive or aggressive enough to avoid a marked economic slowdown this year."