Factory-gate prices fell for the first time in 1-1/2 years in December, in a sign consumer price inflation is set to ease, providing some relief for cash-strapped consumers and paving the way for more economic stimulus from the central bank.
Britons have been cutting back on spending as government cuts, tax hikes and slow wage rises squeeze their budgets, pushing the economy closer to recession.
Producer output prices unexpectedly fell by 0.2 percent on the month, the first monthly drop since June 2010, the Office for National Statistics said on Friday. Annual producer price inflation slowed to 4.8 percent on the year from 5.4 percent.
The figures lend support to the Bank of England forecast that inflation - still just off a recent three-year high of 5.2 percent - will slump early this year and dip below its 2 percent target late in 2012, as economic weakness weighs on prices and one-off effects such as a 2011 sale tax increase disappear.
The easing input price pressures raised the chances that consumer price inflation could fall more than so far pencilled in, said BNP Paribas economist David Tinsley.
Utility providers are beginning to come forward to cuts in gas and electricity prices to reflect lower wholesale prices, he said.
Three of Britain's six main energy suppliers announced cuts in prices this week, while many retailers slashed prices to lure customers in the run-up to Christmas.
The price figures fuelled views that the central bank would inject more stimulus into the economy in February to support growth, and may even add another boost in May to stop inflation falling too far below its target.
The Bank of England stopped short of announcing an expansion to its quantitative easing programme on Thursday. Data due next week is expected to show that consumer price inflation fell to 4.2 percent in December from 4.8 percent in November.
The predicted decline in inflation this year is one reason for Britons to be optimistic about the future, Britain's finance minister George Osborne said in an interview on Thursday.
A boost to consumption, which accounts for more than 60 percent of GDP, would be key for the economy to recover.
Construction data also released by the ONS on Friday indicated the sector may have weighed on growth in the fourth quarter as a 0.2 percent monthly rise in November failed to make up for the 1.0 percent drop in October.
However, some economists warned that there are limits to how much lower prices can lift consumer spending given that Britons face rising unemployment, weakening real incomes and high debt.
Don't overdo it, said Peter Dixon, economist at Commerzbank. There are far more pressing matters that will determine how households behave.
Moreover, some economists warn of the risk producer, and eventually consumer, price inflation will pick up again if the price of oil goes up because of tensions in the Middle East.