Interest rates could be cut further from the current level of 0.5% should low inflation persist, Bank of England governor Mark Carney said today.
Mr Carney said the Consumer Prices Index (CPI) measure of inflation was "more likely than not" to turn negative at some point in the spring.
Latest projections in the Bank's quarterly inflation report suggest that CPI will average at around zero in the second and third quarters this year before starting to climb towards the end of 2015.
Mr Carney said the current period of low inflation - boosting spending power - was positive for the economy. Latest official figures show it fell to 0.5% in December - equalling an all-time low.
But should it be more persistent than currently expected, the Bank's monetary policy committee (MPC) would need to provide "more support".
The Governor said the Bank could decide to expand its £375 billion money printing policy, known as quantitative easing, or cut its Bank rate further towards zero from its current level of 0.5%.
Mr Carney stressed however that low inflation wasn't the "main story" as the Bank upgraded forecasts for wages and growth in the coming years, and predicted that some of the factors causing low inflation would fade.
He reiterated that the next change in monetary policy was likely to be a rise in interest rates.
Mr Carney said: "The headlines today mask a stronger underlying dynamics which will determine UK output and inflation tomorrow.
"Growth in the global economy was a touch stronger last year than we had expected in November. And the outlook for the UK's trading partners is virtually unchanged since our last forecast."
He said that despite renewed headwinds there was expected to be continued modest global growth.
This reflected factors such as a fall in oil prices by half over the last six months and central bank stimulus - notably the 1.1 trillion euro (£814 billion) asset purchasing policy by the European Central Bank.
Mr Carney conceded that an acrimonious Greek exit from the eurozone would change the outlook for the UK, though he said the impact would not be as heavy as it would have been three years ago.
Mr Carney also pointed out the risks of CPI being higher than expected which could see interest rates go up more quickly than previously thought.
Despite the cut in near-term inflation forecasts, the report predicted that CPI would be higher by the end of the period than had been expected.
Mr Carney set out some of the Bank's projections in a letter to Chancellor George Osborne published alongside today's Inflation Report.
He was obliged to write the letter because inflation had veered more than 1% off the Bank's 2% target. Mr Carney said he would "likely write a few more before the year is out".
Mr Carney wrote: "The scope for prospective downward adjustments in the Bank rate reflects, in part, the fact that the UK's banking sector is operating with substantially more capital now than it did in the immediate aftermath of the crisis.
"Reductions in Bank rate are therefore less likely to have undesirable effects on the supply of credit to the UK economy than previously judged by the MPC."
This means that lenders such as building societies whose main income is from mortgages are seen as less at risk from the hit to their business from having to charge lower rates since action was taken to strengthen their balance sheets.
In a reply to the governor, Mr Osborne said he welcomed "that the MPC remains vigilant to both upside and downside risks to its forecast and stands ready to act if these risks materialise".
He added: "I note the MPC's assessment that the UK's banking sector is now stronger and operating with substantially more capital, meaning that, were downside risks to materialise, there would be scope for cutting Bank rate below its current level of 0.5%."
Today's inflation report said that while current CPI was off target by 1.5%, two-thirds of this, or 1%, was due to the effect of lower energy, food and other goods prices. Weak wages were also a factor.
However, the Bank expects some of these effects to fade later this year, while it said there were also signs that pay growth was picking up.
The Bank has left its expectation for UK economic growth at 2.9% for this year and updated it from 2.6% to 2.9% for next year and from 2.6% to 2.7% for next year.
Real terms post-tax household income is expected to have risen by 2.5% last year up from 1.5%. For 2015 they are expected to rise 3.5%, up from 1.25% and for next year by 3%, up from 2.5%.
Inflation at the end of the three-year horizon is expected to reach 2.15%, up from 1.95%.
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