UK Inflation Steady at 2.2% as Services Prices Keep BoE Watchful

UK inflation remains unchanged at 2.2%, but the Bank of England is closely monitoring rising services prices. Despite stable overall inflation, the increase in costs for services is causing concern for the central bank, which is vigilant about potential impacts on monetary policy and economic stability.

LONDON, Sept 18 (Reuters) - Inflation in the UK remained steady in August, but saw an increase in the services sector, a key area of concern for the Bank of England. The Consumer Price Index (CPI) stayed at 2.2%, unchanged from July, aligning with the median forecast from a Reuters poll, although it fell short of the BoE's projection of 2.4%.

Inflation in the services sector, a measure of domestic price pressures, rose to 5.6% from 5.2% in July. The Reuters poll had anticipated a smaller increase to 5.5%. A significant contributor to this rise was a 22.2% surge in airfares between July and August, marking the second-largest jump on record since 2001.

Following the release of the data, the British pound strengthened against the dollar, and investors reduced their expectations of an interest rate cut by the BoE on Thursday to around 26%, down from over 30% the previous day. Futures markets still predict two quarter-point rate cuts by the end of 2024.

The BoE lowered borrowing costs from a 16-year high of 5.25% to 5.0% in August but has indicated a cautious approach towards further reductions due to the gradual slowdown in wage growth, a significant inflation driver in the services sector.

Despite the rise in services prices, economists noted that the underlying trend in the sector—excluding volatile items like airfares—continued to weaken. U.S. stocks closed nearly unchanged as investors awaited the Federal Reserve’s interest rate decision.

James Smith, a UK developed markets economist at ING, remarked that the gradual improvement in the underlying inflation trend might lead to faster rate cuts later in the winter, despite no change expected at tomorrow’s meeting. Conversely, Luke Bartholomew, deputy chief economist at abrdn, suggested that BoE policymakers will likely remain cautious due to persistent elevated core inflation.

Core inflation, excluding volatile energy, food, and tobacco prices, increased both monthly and yearly. This suggests the BoE may proceed more cautiously compared to the U.S. Federal Reserve, which is widely expected to announce a rate cut later today.

Data from last week showed U.S. inflation at 2.5% and 2.2% in the euro zone, both the slowest rates since 2021. UK Prime Minister Keir Starmer’s Labour government, which is focused on accelerating economic growth, acknowledged that while inflation has become more manageable compared to its peak of over 11% nearly two years ago, prices remain high.

Additionally, separate data revealed a 1.2% annual decline in manufacturers' costs for raw materials and energy in August, surpassing economists' expectations. Factory selling prices also saw their smallest increase since January.

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Source: Reuters‍