My colleague David Stevenson popped over to my desk yesterday, brandishing a bit of paper. "Look at that. I've never seen it move this far so fast," he said. It was a Bloomberg chart, with the end of the chart spiking sharply higher. What was it? The share price of a company that had just seen a takeover over? The price of oil? No. It was a chart of the two-year swap rate. And what it showed was that markets are now scared that the next move in Britain's base interest rate will be up, not down. After yesterday's inflation data, it's not surprising Producer price inflation (PPI) exploded in May. The Office for National Statistics reported that factory-gate inflation hit an annual rate of 8.9%, the highest since records began 22 years ago. Manufacturers' raw material costs are up a record 27.9%. Markets, already jumpy amid soaring oil and aggressive noises on rate hikes from the European Central Bank, "embarked on a massive sell-off of UK government bonds", reports Edmund Conway in The Telegraph this morning.

In fact, the two-year swap rate (a key measure in determining mortgage costs) jumped from 6% to 6.3%. The move suggests that traders are now pricing in a British base rate of 5.75% by the end of the year. It was the biggest such move since Black Wednesday in 1992. What does it all mean? It means that the rise in borrowing costs is no longer just about fear of bank solvency, where lenders were reluctant to lend to each other because they thought they might not get paid back. There is now a genuine fear of inflation permeating the markets. Lenders are demanding a higher return on their money, not because they are afraid they won't get paid back, but because they are concerned that inflation will destroy their returns. That's bad news for anything that pays a fixed income, like bonds. It also means that the pressure on the housing market and mortgage financing won't ease up any time soon, though the flipside is that you can expect to see even higher savings rates as banks and building societies try to attract money from depositors, rather than rely on the wholesale markets. Now just because the markets expect the Bank of England to raise the base rate to 5.75% doesn't mean it will happen. But that's not relevant at the moment. The point of the Bank setting the base rate is basically to give a guide as to how much money should cost throughout the economy. But that function has essentially been taken out of the Bank's hands by the market.

This wouldn't be such a bad thing, except that this is not the way it's supposed to work. The fact that the market is now flailing around, completely unsure of which way the Bank will turn, is not great for confidence, and leaves us prone to panicky moves like the Black Wednesday'-style leap in swap rates. If there's one thing that an economy really needs in order to thrive, then it's stability. And that's something we're sorely lacking right now. The one thing that isn't rising in price just now, of course, is property. And deflation is likely to continue there for some time. This morning we hear that the Royal Institution of Chartered Surveyors has said that sales are at their lowest levels since records began in 1978. Let's just be clear on that housing sales are now lower than they were during the bust of the 1990s. You know, the bust that all the pundits kept saying that we wouldn't see again this time round. In the past three months, the numbers of sales per estate agent has fallen to 17.4, down by about 30% on the year, and compared to 26 per agent in the depths of the 1990s crash. One agent, quoted in The Telegraph, said: "An avalanche of job losses in the housing industry is beginning to materialise which could make the current media stories look like the good old days." There was a slight improvement in house prices achieved. Only 92.9% more surveyors reported a fall in house prices than reported a rise, compared to 94.7% in April. Somehow, I don't think anyone will be breaking out the champagne on that news.