UK Inflation Returns to 2%, Justifying Rate Stasis:ationale for rate maintenance persists
Economic stats released Wednesday show the UK's inflation rate is significantly lower than most G7 nations, a victory for central bankers aiming to keep inflation in check for households and businesses.
However, the numbers also reveal that the prices of services like haircuts, hotel stays, and dining out are climbing too rapidly.
This suggests the Bank of England is unlikely to follow the European Central Bank's lead in slashing interest rates at their upcoming meeting. A rate decrease in August, when UK officials convene next, is also less probable.
Service inflation, which hit 5.7% in May (down from 5.9% in April), is "still running too hot," according to Zara Noakes, global market analyst at JPMorgan Asset Management.
"Today's inflation report effectively puts an end to any dreams of a rate cut from the Bank of England tomorrow... If the domestic price pressures remain this stubborn, coupled with ongoing economic activity resilience, an August rate cut could very well be scrapped," she stated further.
Various economists, including those at Nomura, still believe an August rate cut is possible if wages and service costs moderate further. "For an August rate cut to occur, we'll require other economic indicators to cooperate," they wrote in a note.
In August 2022, the Bank of England increased the benchmark borrowing rate to 5.25% — its highest level in 16 years and a level at which it has remained since. UK inflation peaked at 11.1% in October 2022, driven by escalating food and energy costs.
Although inflation has been steadily decreasing since — and wages have grown faster than inflation for almost a year — many British citizens are still grappling with expensive living costs. Persistently high expenses are probable to be a significant concern for voters leading up to the government election on July 4.
"Workers now have more money in their wallets than they did last year... However, the downside is that most people feel poorer than they did when they cast their votes in the last general election nearly five years ago," said Rebecca Florisson, principal analyst at the Work Foundation at Lancaster University in England.
"For numerous workers, the cost-of-living crisis is not resolved yet."
According to Jake Finney, an economist at PwC UK, consumer prices have risen by 20% since inflation last reached its target in July 2021. He warned that the headline inflation could surge back above the 2% target as early as next month if prices maintain their current upward trend.
"It's not 'mission accomplished' yet," he said.
In a similar vein, inflation has shown remarkable tenacity in the United States and Europe, causing traders to lower their expectations for rate cuts from major central banks.
Though the European Central Bank made rate cuts earlier this month, it raised its inflation prediction for this year and stated that consumer prices in the 20 countries using the euro were likely to remain above its 2% target well into the following year.
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Businesses might struggle to manage rising costs due to service inflation, as indicated by the Bank of England's reluctance to decrease interest rates.
The persistence of high inflation rates could negatively impact various businesses across the UK.
