Unexpected slowdown in UK inflation keeps hopes of rate cut next month
Consumer prices rose by 2.5% vs. 2.6% in November
U.K. inflation unexpectedly slowed for the first time in three months in December, keeping alive hopes that the Bank of England will cut interest rates next month, according to Bloomberg.
Consumer prices rose by 2.5% compared to the same month a year earlier, up from 2.6% in November, the Office for National Statistics said on Wednesday.
This is in line with the Bank of England's forecast in November, and is better than the expectations of private sector economists who expected the rate to remain unchanged. The biggest contributor to this decline was the restaurants and hotels sector.
Although headline inflation remains above the Bank of England’s target of 2%, there are encouraging signs that underlying pressures are easing, with service sector price growth slowing to 4.4%, the lowest since March 2022, from 5% the previous month.
The British economy is expected to outperform its struggling European peers over the next 15 years, enabling it to maintain its position among the world's largest economies.
The decline could help ease investors' concerns after a week of turmoil in financial markets that sent benchmark government bond yields to their highest level in 17 years.
Sterling fell 0.4% after the data to $1.2163, close to its lowest since late 2023.
Ahead of the data, markets were pricing in a 65% forecast for the Bank of England to cut interest rates for a third time at its next meeting on February 6, with only one quarter-point cut expected this year.
Bank Governor Andrew Bailey and other members of the interest rate-setting committee have signaled their support for further gradual rate cuts.
Economists have warned that inflation could rise above 3% this year, driven in part by higher energy and fuel costs, above the peak of 2.8% forecast by the Bank of England last November.
Any decline in inflation may only provide short-term relief for the UK bond market, and traders remain concerned that price pressures could escalate, said Finn Ram, a multi-asset strategist at Bloomberg.
The data was the last assessment of prices before the Bank of England decides on February 6 whether it can cut interest rates for the third time since they began to be reduced last August.
Bailey said monetary policymakers still believe that four quarter-point rate cuts next year are possible.
Traders are now awaiting crucial US inflation data, due later today, with bonds also under pressure, awaiting signals on how quickly the US Federal Reserve will cut interest rates.
The Bank of England faces threats on several fronts, including rising global trade tensions as President-elect Donald Trump approaches his inauguration, the fallout from the UK Labour Party's first budget, and the turmoil that has swept the country's markets in recent weeks.
Although a sharp rise in bond yields in 2025 could hamper UK growth as financial conditions tighten, economists warn that uncertainty over inflation could make officials reluctant to rush into rate cuts.
“Inflation has fallen very slightly this month as hotel prices have fallen, but they have been rising over the past year and tobacco costs have been lower than usual, helping to ease inflationary pressures,” said Grant Fitzney, chief economist at the ONS.
Core inflation, which excludes energy, food, alcohol and tobacco costs, also fell to 3.2% from 3.5%, below economists' expectations.
