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UK inflation slows to 2% goal for first time in three years

Bloomberg • 4 min read
UK inflation slows to 2% goal for first time in three years
For the BOE, which wasn’t expected to move rates Thursday in the midst of the election campaign, the figures are a reminder of lingering pressures on underlying prices. Photo: Bloomberg
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British inflation fell back to the Bank of England’s 2% target for the first time in almost three years, a milestone that likely comes too late to improve the political fortunes of Prime Minister Rishi Sunak before the looming election.

The Consumer Prices Index eased in May from 2.3% the month before, the Office for National Statistics said on Wednesday. While that should keep the central bank on track for interest-rate cuts later this year, services inflation remained sticky, which is likely to keep policymakers cautious about acting.

The figures will allow Sunak to declare victory over a brutal cost-of-living squeeze after inflation topped 11% in late 2022 when war in Ukraine and the end of pandemic restrictions sent prices spiraling. Still, that’s unlikely to be enough to help the ruling Conservative Party, which polls show is heading for defeat in July 4 election.

For the BOE, which wasn’t expected to move rates Thursday in the midst of the election campaign, the figures are a reminder of lingering pressures on underlying prices. Inflation in the services sector, closely watched by policy makers, remained higher than expected, rising 5.7% last month after a reading of 5.9% in April. Economists had expected a sharper decline to 5.5%. 

Investors pared back expectations for rate cuts and only fully price in the first move in November. They reduced the chances of a September move to almost 50.50. The pound was little changed, erasing modest losses after the release to trade 0.1% stronger at US$1.2725.

“Inflation may be back at 2%, but it might not be there for long,” said Zara Nokes, global market analyst at JPMorgan Asset Management. “Today’s inflation news puts the final nail in the coffin for any hopes of a rate cut from the Bank of England tomorrow. Services inflation is still running too hot.”

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Economists expect inflation to pick up to 2.4% by the end of the year, before easing back to the 2% target.

Soaring prices and last year’s recession too a bite out of the Conservatives’ reputation for managing the economy. The central bank is still on guard for signs inflation will persist and is watching wages and price-setting in the service sector before acting.

“While inflation is down, it is not out,” said Joe Nellis, economic adviser at MHA, an audit, tax and consulting firm. “Although we forecast that inflation will remain flat for the next few months, as we head into the winter a rise in energy prices could cause it to spike again.”

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Goods prices fell 1.3% in the month, the most since 2016. Food inflation — one of the major drivers of the double-digit price increases — eased to 1.6% and dragged the overall rate lower. Some products are now seeing declines in prices, such as fish and dairy.

The ONS said that prices in restaurants and hotels contributed most to the headline rate with the sector passing on demands for higher, not least after the rise in the minimum wage. Rent and fuel costs also were upward forces on services.

Investors and economists expect BOE Governor Andrew Bailey and his colleagues to leave the benchmark rate at a 16-year high of 5.25% on Thursday when the next decision is released. Rate setters have refrained from public remarks during the election campaign, but they previously expressed concern about indicators of underlying inflation.

“Another fall in inflation in May will come as welcome news to households as we move towards a more benign inflationary environment,” said Martin Sartorius, principal economist at the CBI. “However, many will still be feeling the pinch due to the level of prices being far higher than in previous years, particularly for food and energy bills.”  

Economists surveyed by Bloomberg expect the BOE to deliver the first of two rate cuts this year in August. Money markets are more hawkish, only fully pricing in a reduction in November.

“While this is positive news, we expect to see inflation rebound somewhat from June onwards,” said Paula Bejarano Carbo, economist at the National Institute of Economic and Social Research. 

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