In a carefully pitched assessment, the Bank raised its inflation and growth forecasts compared with its November view. But it tempered this by emphasising that it will move cautiously in the face of downside dangers to the economy.

As underlying pay growth climbed to a three-year high, however, Mervyn King, the Bank’s Governor, also sounded a warning that low rates in future were likely to be conditional on pay staying in check.

In the Bank’s latest Inflation Report, its central view is that, with interest rates at their present 4.75 per cent level, stronger growth will push inflation above its 2 per cent target during next year.

With inflation then forecast to continue climbing above the target, the Bank’s projections pointed to further increases in base rates.

Mr King made clear that the Bank’s Monetary Policy Committee would weigh the forecast carefully against its belief that the stronger economic outlook shown by yesterday’s report remains prey to a slew of risks and uncertainties.

“The balance of risks offsets the extent to which the central projection (of inflation) is off target,” the Governor said.

Mr King emphasised that the “key downside risk” to prospects was that the downturn in the housing market delivered a harder blow to consumer spending than the Bank hoped for.

The Bank’s analysis is still for consumer spending, which accounts for two-thirds of the economy, to keep growing at about its average pace over the past three years, boosted by strongly rising incomes and increasing household wealth.

Mr King said that, while consumer activity seemed to have slowed over the final three months of last year, “the outlook is highly uncertain”.

Repeating pleas urging the country and the markets not to leap to judgments, he said: “Drawing strong conclusions about spending over the Christmas period is something we should all give up for Lent.”

The Governor said the latest indicators from the property market showed that house prices were “broadly flat” in recent months. “No one can possibly judge where house prices will go,” he said.

The tone of the Bank’s report was less hawkish than expected and sent the pound and interest rate futures tumbling in the day’s trading.

But Mr King sounded warnings over rising wage pressures as the December average earnings data released yesterday pointed to an acceleration.

“The principal upside risk to inflation is uncertainty about earnings growth in such a tight labour market,” the Governor said.

His comments came as underlying wage growth, excluding bonuses, climbed to 4.5 per cent in the three months to December — taking it to its fastest since January 2002 and up to the Bank’s “comfort level” for the pace of pay rises.

The Inflation Report noted, though, that there remained “scant” signs of wage pressures taking off.

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