The UK inflation rate has significantly cooled in June, surprising economists by coming in below consensus expectations at 7.9% annually. Analysts polled by Reuters had projected an annual rise in the headline consumer price index of 8.2%, following May’s hotter-than-expected 8.7% reading. While this decline is encouraging, annualized price rises still exceed the Bank of England’s 2% target.

On a monthly basis, headline CPI only increased by 0.1%, below the consensus forecast of 0.4%. Core inflation, which excludes volatile energy, food, alcohol, and tobacco prices, remained sticky at an annualized 6.9%, but it fell from a 31-year high of 7.1% in May.

The Office for National Statistics attributed the largest downward contributions to the monthly change in the CPI annual rate to falling motor fuel prices. However, food prices rose in June, although the increase was smaller than the same period last year.

Following the news, the pound slid 0.6% against the dollar, trading around $1.296 as of 7:50 a.m. London time.

Chief Secretary to the Treasury, John Glen, expressed optimism about the larger-than-expected decline in the inflation rate but emphasized that there’s no complacency in the Treasury. The government aims to work closely with the Bank of England to reduce inflation to its long-term norm of 2% within this year.

The UK has been grappling with persistently high inflation, leading to warnings from the government and the Bank of England that it could become entrenched in the economy. Both Bank of England Governor Andrew Bailey and UK Finance Minister Jeremy Hunt have expressed concerns about the impact of high wage settlements on inflation containment.

The Organization for Economic Cooperation and Development (OECD) previously projected that the UK would experience the highest level of inflation among all advanced economies this year, with a headline annual rate of 6.9%.

To combat soaring inflation, the Bank of England implemented a 50-basis-point hike to interest rates last month, the 13th consecutive increase as part of its efforts to curb demand and rein in inflation. Markets are now anticipating another aggressive half-point hike to 5.5% at the Monetary Policy Committee’s August meeting.

Economists cautiously welcome the recent decline in inflation but warn of challenges ahead. Suren Thiru, economics director at the Institute of Chartered Accountants in England and Wales, predicts a hefty fall in July inflation, with lower energy bills likely to pull the headline rate below 7%. However, this decline may come at the expense of a weaker economy and higher unemployment.

Marcus Brookes, chief investment officer at Quilter Investors, sees the fall in CPI as a “glimmer of light” but remains concerned about the UK’s drastic outlier status in terms of inflation compared to other major economies. He suggests that the path to reducing inflation might lead to a likely recession next year, which could be necessary to bring inflation back to target. Brookes advises investors to seek shelter in quality companies that can navigate the challenging economic environment and consider UK fixed income investments such as gilts.

Overall, the decline in inflation brings some relief to the Bank of England ahead of their next interest rate decision but raises questions about the potential impact on the economy in the coming months. While markets seem cautiously optimistic, economists stress the importance of a balanced approach to managing inflation to avoid damaging policy mistakes. The economic landscape remains uncertain, and policymakers must remain vigilant in addressing the challenges posed by persistently high inflation.

By: Montel Kamau
Serrari Financial Analyst
20th July, 2023

photo source Google