CPI steady at 2.1% - but not for much longer

The annual rate of price inflation remained steady at 2.1%, according to the CPI index. But will retailers continuing to absorb higher input cost as sales slow on the high street?

The annual rate of price inflation, according to the consumer price index (CPI), remained steady at 2.1% in December. The biggest upward contribution came from food price inflation, which rose from 4.8% to 5.4% with bread, jam and cauliflowers showing some of the largest price rises. However, falling furniture prices and slower growth for household services (that includes gas and electricity bills) offset the soaring cost of breakfast, lunch and tea.

The headline rate as measured by the retail price index, which includes housing costs - fell from 4.3% to 4.0% in December, largely thanks to a smaller jump in mortgage repayments.

So price pressures on the high street remain subdued, for now at least. But will retailers be able to keep costs down?

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Yesterday's producer price inflation figures showing factory gate prices have hit a sixteen-year high highlighted the cost pressures currently faced by the goods sector, most notably rising food and imported goods prices. However, Capital Economics said that it expects retailers to absorb the majority of these.

That may well be true. With demand on the high street weakening, retailers might not feel comfortable raising prices though that doesn't mean they won't be forced to, to protect their margins. A raft of results out today showed that even giants like Tesco are suffering in the current climate.

Double trouble for Tesco

Results for the Christmas period showed that like-for-like sales for Britain's biggest retailer increased by 3.1%, less than the 4.1% for the previous quarter. The news prompted falls to a four month low for the retailer's share price, plus calls from Finance Director Andrew Higginson for interest rate cuts to counteract consumer caution'.

On the positive side, international sales climbed to 12.8% from 11.8% over the previous quarter, and response to its US venture, Fresh and Wild, was described as encouraging'. However, there are dark clouds gathering on the horizon across the Atlantic as well. As Patrick Hosking commented in the Times today, Wal-mart has just rolled out a chain of shops remarkably similar to Tesco's. It may be the sincerest form of flattery', says Hosking, but the move will definitely set alarm bells ringing'.

Burberry fails to sell enough bags

Other retailers are also feeling the squeeze. Take Burberry. Its advertising campaigns may star high-profile beauties such as Kate Moss and Agyness Deyn but figures out today showed that sales over the final three months of 2007 still came in below expectations. Retail sales, which grew at an underlying rate of 14%, were modestly behind' hopes. The company looks likely to miss profit forecasts as higher warehousing and distribution costs also bite.

Shares in the British retailer fell by as much as 12% today its biggest drop ever. Luxury goods stocks have been suffering across the board in the last couple of months on falling consumer spending.

Inflation outlook remains mixed

Household names such as Dixon, B&Q, PC World and Debenhams have also suffered from greater consumer caution over the Christmas period. And things look unlikely to pick up for the high street in the coming months as consumers start to feel the squeeze from rising bills and tighter credit conditions. Npower has already announced double-digit increases for energy tariffs. And most householders can also expect their council tax to go up in April.

So even if retail prices stay fairly steady, the cost of living is still set to tick up - which could push CPI back up to around 3% by mid-2008, reckons Capital Economics.