Sharp drop in inflation to 1.7% has implications for interest rates, pensions and the broader economy: REACTION

The ONS has announced this morning that UK inflation has dropped to 1.7% for the year to September, down from 2.2% in August – beating most analysts’ expectations. UK inflation is now below the Bank of England’s target rate for the first time in 3 years. Even core inflation – which has been causing some concerns amongst policy makers – has fallen to 3.2% from 3.6% last month. Overall, this will be seen as some welcome good news although it is just a snapshot in time and may not be sustainable at this level given recent rises in fuel costs.

But with that good news in mind, what do these inflation data mean for the direction of interest rates? Will it mean the Bank of England is more likely to cut again next month? And what about markets? And pensions? Experts from across the industry have been early to their desks today and sharing their reaction to the data as follows:

Rob Clarry, investment strategist at wealth management firm Evelyn Partners, comments: “Not only did the annual inflation rate for September come in substantially lower than expectations, but there was a notable drawback in key services inflation. Bank of England Governor Andrew Bailey said earlier this month that the MPC could be a “bit more aggressive” with rate cuts, and together with some softening labour market data this week, the evidence has emerged to put this sentiment into action.

“For some time now the UK has appeared to be facing stickier inflationary pressures when compared with other advanced economies. The bond market has been particularly concerned with comparatively high core CPI readings, and also with services inflation, which has been running above 5% since June 2022. These measures are a better gauge of domestically generated inflation than the headline CPI measure, which is more influenced by external factors such as global energy prices.

“So this CPI print will have been welcomed by both the bond market and the Bank of England. Core inflation decelerated from 3.6 year-on-year to 3.2%, while services inflation fell sharply from 5.6% to 4.9%. The largest downward contribution to the monthly change in the CPI annual rate came from transport, with larger negative contributions from air fares and motor fuels; the largest offsetting upward contribution came from food and non-alcoholic beverages.

 
 

“We also received the latest UK labour market data this week, which pointed to further softening in the jobs market. Wage growth continued to decelerate while the number of job vacancies declined from 856,000 in the three months to August to 841,000 in the three months to September.

“Coupled with this encouraging inflation data, the MPC surely now has the evidence it needs to take Andrew Bailey at his word and be more aggressive in its rate cutting cycle. The only possible caveat to this narrative is that headline inflation is likely to move higher again in the coming months given that the energy price cap increased by 10% on the 1st October.

“Nevertheless, money markets are now expecting quarter-point cuts at the next three MPC meetings, and the pound sold off this morning in response.”

Steven Cameron, Pensions Director at Aegon comments: “After many losing out on the winter fuel allowance, state pensioners can take some comfort in knowing that a 4.1% increase in their State Pension is expected next April. This is more than double the inflation figure of 1.7% announced today. 

 
 

“This rise is due to the Triple Lock formula, under which pensions  increase each April by the highest of three measures – earnings growth (the year-on-year rise in average earnings for the period May to July), price inflation for the year to September (which was announced this morning as 1.7%) or 2.5%. As the average earnings growth – which was recalculated as 4.1% rather than 4% – is the highest of the three, then subject to official confirmation, this should see the State Pension increase by 4.1% for 2025/26.  

“For someone on the full new State Pension of £221.20 a week, this would equate to an increase of £9.10 to £230.30 a week, or £11,975.60 a year.  For those who reached State Pension age before 6 April 2016 and who are on the full basic State Pension of £169.50, the increase could be around £6.95, bringing them to £176.45 a week – £9,175.40 a year. A little-known rule is that any earnings-related element of the State Pension, relating to the pre-April 2016 rules, and top ups, are only increased in line with the rate of inflation and not the triple lock. Therefore, some may find their overall State Pension increase lags behind the 4.1% figure.”

Commenting on the latest CPI data from the ONS, Abhi Chatterjee, Chief Investment Strategist at Dynamic Planner said:

“At last, some good news for the beleaguered consumer. Inflation, as measured by the Consumer Price Index, fell below the Bank of England target to 1.7% in 3 years. Better still, the print came in lower than was expected by practitioners. The downward move was from transport, fuelled by lower air fare and petrol prices. At the back of a cynic’s mind, is also the Middle East crisis, which has caused crude prices to rise as well as the rise in the Ofgem energy price cap rise for households – these have a potential to reverse the decline in inflation.

 
 

“Notwithstanding, this comes as a welcome boost to both consumers as well as the Government as it heads into its Budget, promising to do everything to “galvanise growth”. The Bank of England also gets a bit of a breathing room allowing it to take steps to begin the easing cycle in earnest. With the possibility of a rate cut by the Central Bank in November almost a certainty, it would not be too much of a leap of faith to expect another in December, should the trend in inflation continue.”

Jonny Black, Chief Commercial & Strategy Officer at abrdn adviser, said: “This is a promising sign for rate setters. Andrew Bailey has hinted that if the positive inflation trend continues, we could see a bolder approach to cutting interest rates.

“But with the geopolitical landscape remaining turbulent, there’s risk of volatility that could lead to sharper price rises. Advisers remain essential. Their counsel will help clients to feel confident that their strategies can weather any storm.”

Rachel Winter, Partner at Killik & Co, said: “The return to below-target inflation for the first time since 2021 suggests the Bank of England’s tactics have worked almost too well. But we should not take stability as a fait accompli – with the UK Budget and the US presidential election now less than a month away, market volatility in the short term remains likely. Both these events could affect the exchange rate between the pound and the dollar, and this could have an impact on UK inflation. The UK is heavily reliant on imports, and these imports become more expensive when the pound is weak, and cheaper when it is strong.

“Against this difficult landscape, the Bank of England needs to balance a complex cocktail of factors before voting for more interest rate cuts. For investors, the ongoing uncertainty underscores the need for a well-balanced portfolio. As volatility persists, diversification remains critical to mitigate risks from sector-specific disruptions.”

Rachael Hunnisett, director of mortgage distribution at April Mortgages, comments:

“Inflation dropping below the Bank of England target should be good news for Britain’s borrowers and the broader property market.  The fact that headline CPI came in well below consensus will be music to the ears of borrowers as, following on from slowing wage growth on Tuesday, it has put the prospect of another rate cut in November by the Bank of England firmly back on the table. With headline inflation down to 1.7%, this will give Threadneedle Street some wriggle room too.

“However, the past fortnight or so has once again shown how volatile markets are, with many lenders raising their rates to reflect market concerns around both the oil price and Autumn Budget. All this volatility around the direction of rates, and the sheer number of variables that can change market conditions very quickly, highlights how exposed borrowers can be if they are remortgaging regularly. In such a volatile political and economic climate, certainty of mortgage payments is becoming even more valuable for a growing number of borrowers.”

Like Rachael, Nathan Emerson, CEO at Propertymark, also sees it as good news for the property markets commenting:”Today’s news will likely bring yet more positivity and confidence across the housing market. We are beginning to see the foundations for a strong 2025, which could be further strengthened with a potential dip in the base rate when the Bank of England next meet in early in November. We are already witnessing many lenders improving their offerings, which is proving very welcome news for home buyers across all the price ranges.”

Lily Megson, Policy Director at My Pension Expert, said, “Dropping to below target levels is a huge milestone in the fight against inflation, particularly after the sustained period of financial strain people have endured. Millions have seen savings like pension pots throttled by years of rising costs.

“Getting inflation under control has always been the priority in allowing savers to recover from the damage caused by prolonged price hikes. Yet, as we look ahead, savers must not become complacent. Now is the time to focus on rebuilding financial security through careful planning, and to ensure savings and investments are working as hard as possible to provide meaningful returns.

“Moving forward, the government and financial services sector must seize this opportunity to double down on financial education and make independent financial advice more accessible. Supporting people as they recuperate their losses in a post-inflation period will be key to ensuring that everyone can enjoy a more stable and comfortable financial future.”

Ed Monk, associate director, Fidelity International, shares his comments about inflation slowing faster than expected below 2% BoE target saying: “The dip in inflation confirmed today suggests a November cut to interest rates is likely, with the question now whether borrowers can look forward to another one after that before the year is out.

“Ahead of the inflation numbers this morning the bond market was pricing in three to four quarter-point cuts before the end of next year, but that timetable may accelerate if inflation continues to undershoot the Bank of England’s forecast, which is for inflation to tick higher again this year before falling back to target next year.

“Lower inflation is good news for household budgets but also for savers and investors, who will see a higher inflation-adjusted return. Fund purchases by our clients demonstrate the appetite for cash and cash line assets, with cash and shirt-maturity bond fuds featuring high in Fidelity’s list of best-sellers this year. Inflation-beating interest on cash will no doubt have tempted some investors to move money from investments into savings accounts. The good news for those savers is that rates are likely to exceed inflation for a while longer. Market prices suggest this will be the case for all of next year, at least.

“But there’s also clear signs that the path for rates – including cash interest – is falling. In that context, it may be time for investors to rebalance their allocation of cash versus investments.”

Hetal Mehta, Head of Economic Research at St. James’s Place, says: “The fall in UK inflation is very broad-based, and for the BoE, the core inflation and services inflation numbers in particular will be good news.  

“They should consolidate the expectations of a cut in November and perhaps the vote split will narrow. As for back-to-back cuts, I think more evidence of a continued decline in inflation is needed before we see this and suspect the BoE will also want to have a more time to digest the Budget announcements.”

Richard Pike, chief sales and marketing officer at Phoebus, said: “All in all, it’s a promising outlook for a Bank of England rate cut in November also assisted by yesterday’s news on easing in wage growth. We must still remember prices are still rising, just not as fast, and also usually benefit rates are assessed on September’s figures and so it will be interesting to see what the new Government does on this.

There’s still an expectation that inflation will start to rise again in the next 3-6 months.  However, with inflation well below the Bank of England’s target, the scene is set for potentially larger interest rate more quickly cuts than previously thought.

“In balance, however, the economy is looking a lot more stable, and this can only stimulate the housing and mortgage markets in Q4 and into 2025.”

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