UK inflation has decreased to 1.7%, its lowest level since 2021, setting the stage for potential interest rate cuts.
- The latest ONS data reports a decrease from 2.2% in August, surpassing predictions from analysts and the Bank of England.
- Lower airfares and fuel prices have contributed to the inflation drop, despite rising food and beverage costs.
- Financial markets are responding, with currency values shifting and bond yields dropping amid rate cut expectations.
- This inflation change could impact fiscal planning and benefit payments, influencing future economic strategies.
The latest data from the Office for National Statistics indicates that the annual inflation rate in the United Kingdom fell to 1.7% in September. This decline marks the lowest inflation rate since 2021, dropping from 2.2% in August. Such a reduction was greater than anticipated by city analysts, who had expected a rate of 1.9%, and contradicts the Bank of England’s forecast for a smaller decrease to 2.1%.
A fall in airfares and fuel prices underpin the decrease in inflation, although these were partially offset by an increase in food and non-alcoholic beverage costs. Despite the recent uptick from 1.3% to 1.8%, food prices remain well below the nearly 20% peak observed in March 2023.
In response to this economic shift, financial markets have shown noticeable activity. The British pound has depreciated, experiencing a 0.62% drop against the US dollar to dip below $1.30, and a 0.49% decrease against the euro to €1.194. Concurrently, the yield on 10-year UK government bonds has decreased by 1.8% to 4.1%, and the yield on two-year bonds has fallen by 2.5% to 4.03%. These movements reflect market anticipation of possible interest rate cuts.
Darren Jones, Chief Secretary to the Treasury, acknowledged the easing inflation, stating, “It will be welcome news for millions of families that inflation is below 2 per cent. However, there is still more to do to protect working people, which is why we are focused on bringing back growth and restoring economic stability.”
This inflation dip may offer Chancellor Rachel Reeves an advantage as she prepares for her first budget. The prospect of quicker interest rate cuts by the Bank of England could assist in addressing a £40 billion fiscal gap. Speculation surrounds potential budget measures, including capital gains tax increases and employer pension contribution national insurance.
Grant Fitzner, Chief Economist at ONS, confirmed, “Inflation eased in September to its lowest annual rate in over three years. Lower airfares and petrol prices were the biggest driver for this month’s fall.” The lower-than-expected inflation may affect benefit payments, which are adjusted annually according to September’s rate. Additionally, workers could see a slight reprieve from fiscal drag due to wage increases, although the state pension is still expected to rise by £460 next year.
Historically, this inflation reduction highlights a pivotal moment in the UK’s efforts to manage rising prices. The peak inflation rate of 11.1% recorded in October 2022 was predominantly driven by increased energy costs amid geopolitical tensions, specifically Russia’s invasion of Ukraine. These conditions added to pre-existing post-pandemic supply challenges and consumer demand pressure.
With inflation below the target, there is growing anticipation of further rate cuts by the Bank of England, potentially commencing at the next Monetary Policy Committee meeting on 7 November. However, opinions within the committee vary, with discussions intensifying over the timing and extent of rate reductions.
Paul Dales, Chief UK Economist at Capital Economics, emphasised that a rate cut was likely even before the latest figures, stating, “A rate cut next month already seemed nailed on before the September inflation figures, but the chances of that being immediately followed by another 25 basis points cut at the following meeting in December have just gone up.”
Economist Thomas Pugh of RSM UK added confidence, suggesting that current data supports a more aggressive approach by the Bank of England in reducing rates without risking higher inflation. However, some within the Monetary Policy Committee remain cautious, with Governor Andrew Bailey contemplating a more dynamic policy shift, while Chief Economist Huw Pill suggests maintaining higher rates to combat ongoing inflation pressures. Core measures, such as services inflation dropping from 5.6% to 4.9% and core inflation decreasing from 3.6% to 3.2%, add layers to the ongoing debate on interest rates.
The recent dip in UK inflation to 1.7% has sparked discussions on potential interest rate cuts, with substantial implications for economic policy.
