UK inflation holds at 4% in relief for Bank of England

Sterling slides against dollar and euro as UK inflation holds at 4%

In a surprising turn, the UK inflation rate held steady at 4.0% in January, contrary to the anticipated increase, as revealed by official data published by the Office of National Statistics (ONS). The stability in price increases comes as a boon to the Bank of England (BoE) and Prime Minister Rishi Sunak, particularly with a national election on the horizon this year.

Economists polled by Reuters had previously predicted the annual inflation rate to climb to 4.2% and are now observing a scenario where consumer price inflation in the UK — previously higher than in other developed countries — might see a further decline in the months ahead. This trend sets the stage for the BoE to consider lowering the borrowing rates from their 16-year peak.

Following the release of the inflation data, the British pound saw a dip against both the dollar and the euro.

At the time of writing, the GBP to USD pair was down 0.43% at $1.2538, while the EUR to GBP pair was up 0.32% at 58.33p, indicating sterling weakness across the board.

The market has adjusted its expectations regarding the BoE's interest rate cuts, now estimating a 72% likelihood of a rate decrease in June — a significant leap from the 40% assessed on Tuesday after an unexpected surge in U.S. inflation figures.

Martin Beck, chief economic advisor to the EY ITEM Club, told Reuters:

"Overall, the latest inflation data should reassure the Monetary Policy Committee that the time to start cutting interest rates is approaching”.

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UK core inflation stays unchanged at 5.1%

The Office for National Statistics also reported that the UK's core inflation, which excludes the prices of food, energy, alcohol, and tobacco, remained at 5.1%. Although services inflation saw a slight increase from 6.4% in December to 6.5%, it was below what the BoE had anticipated. The central bank is particularly concerned about rapid wage growth in the services sector, fearing it might contribute to broader inflationary pressures across the economy.

Recent data revealed that regular wages grew by 6.2% annually in the final quarter of 2023, marking the slowest growth rate in over a year but still roughly double what the BoE considers compatible with a sustainable return to a 2% inflation rate.

"Inflation never falls in a perfect straight line, but the plan is working," said UK finance minister Jeremy Hunt. "We have made huge progress in bringing inflation down from 11% and the Bank of England forecast that it will fall to around 2% in a matter of months."

UK food prices see first monthly decline since September 2021

BoE Monetary Policy Committee member Jonathan Haskel, who recently advocated for a rate hike, indicated the need for more evidence of diminishing inflation pressures before reconsidering his position.

Meanwhile, Pantheon Macroeconomics economist Samuel Tombs highlighted a potential 0.2% monthly decrease in a key core services price gauge closely monitored by the BoE.

In a positive development for consumers, food inflation recorded a monthly decline for the first time since September 2021, dropping by 0.4% from December. The persistently high inflation has notably strained UK households' living standards, posing a significant electoral challenge for Sunak's Conservative Party, which trails behind the Labour Party in opinion polls.

Additional data from the ONS showed a decrease in the prices paid by manufacturers by 3.3% annually, marking the most significant drop since May 2020. The prices they charged also dropped by 0.6% — the largest decline since November 2020.

This easing inflationary pressure is expected to contribute to modest economic growth in the UK in 2024, although upcoming official data might indicate a slight recession in the latter half of 2023, as per analysts polled by Reuters.

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Past performance is not indicative of any future results. This information is provided for informative purposes only and should not be construed to be investment advice.