UK inflationary pressures show no signs of abating

Despite today's further increase in CPI, the BoE still expected to raise interest rates by only 25bps tomorrow

By Stuart Cole | @Stuart Cole | 21 June 2023


Today’s UK inflation numbers for May will have made difficult reading for the Bank of England. With no signs showing yet that inflationary pressures are about to turn lower, the increase in the annual core rate from 6.8% to 7.1% will have increased the pressure on the Monetary Policy Committee to continuing raising Bank Rate over the coming months and the risk is clearly growing that it will take a period of negative growth to finally get CPI back under control. The annual headline rate beat the BoE’s own forecast, provided just last month, by 0.4%, an even bigger margin than the 0.3% overshoot seen in April. And if it had not been for an unexpected fall in petrol and diesel prices, the size of this overshoot would have been even larger. Understandably, concerns that have been growing regarding the reliability of the BoE’s inflation forecasts are also likely to have been boosted further by today’s numbers.

Worryingly, the inflationary pressures being seen are broad based: the monthly core CPI services figure rose 0.8%, the increase not clearly attributable to any particular component, and this will make the BoE’s task in bringing CPI back under control much more difficult. The crumb of good news is that the headline rate of CPI still looks set to start turning lower as we move through the year. Wholesale energy prices will start to exert downside pressure on the reading from July, while the rate of inflation in food prices is also continuing to slow. And core producer prices rose at a 3mth annualised rate of just 0.8%, the lowest reading since November 2020, pointing to increasing downwards pressure on goods prices going forward.

But these are pointers for the future; what matters to the markets is what the BoE does right now, and this is particularly pertinent given that we have the latest MPC meeting tomorrow. On balance a 25bps increase in Base Rate is probably the most likely outcome, although it would not be a surprise to see any of the ‘hawks’ on the Committee making the case for a larger, 50bps, increase, arguing that the BoE needs to take back the initiative in its battle against rising prices. However, to do so would probably be viewed by most on the Committee as suggesting a degree of panic, and it would also leave the BoE open to further criticism regarding how its forecasts of inflation have been so wrong. But it cannot escape the reality that it needs to act quickly if it is to avoid inflation expectations becoming unanchored and risking a wages/price spiral.

So, tomorrow’s MPC meeting looks set to deliver a further 25bps interest rate rise, but with the MPC stressing that it will continue to tighten policy as necessary and doing nothing to dissuade the markets that its growing anticipation of a terminal rate around 6% is too high.