UK inflation hits 2% – but interest rate cut unlikely: the industry reacts

The inflation report from the ONS has been published this morning, revealing that UK headline inflation has hit the Bank of England’s 2% target for the first time in almost three years.  Good news at least!

Food prices are the main trigger behind today’s data, although we must remember that food prices generally are still 25% higher than at the start of 2022. Cost of living pressures have certainly not abated on hard-pressed family budgets and on businesses too.

But what does this mean for the direction of interest rates in the UK? The consensus is that we are very unlikely to see an interest cut from the Bank of England at this month’s meeting on June 20th. Even a cut in August remains in question, with the direction of underlying core inflation likely to be at the centre of decisions. With services inflation still coming in at 5.7% over the year to April, this will be the fly in the ointment for policy makers. They won’t want to cut too fast and risk inflation becoming embedded. There are still risks on that front so they’ll go cautiously.

Experts from across the financial services spectrum have been sharing their reaction to today’s good news on inflation as well as their expectations for what it might mean for the chances and timing of interest rate cuts in the weeks and months ahead:

 
 

Laura Suter, director of personal finance at AJ Bell, comments:

“Inflation has finally hit the Bank’s target of 2%, for the first time in almost three years. CPI inflation dropped once again in May, as food prices helped to push the headline rate down. The drop today down to 2% ends 34 long months of above-target inflation and brings price increases back to a much more palatable level.  

The figure will be heralded by Rishi Sunak on the campaign trail as vindication of the policy setting moves that the Conservatives have made over the past few years. In reality, much of the leg work was done by the Bank of England, with the government being very limited in how much they control inflation – but that’s unlikely to stop them from doing a bit of glory-stealing. 

 
 

Food prices actually fell in May, with the price of essentials like bread, cereals, vegetables and even chocolate dropping. This month’s fall compares to a chunky rise in food costs a year ago, which helped to pull the inflation rate back down. However, we’re still paying more for food and drink than we were a year ago – and the overall food basket is still much more expensive than at the start of the cost of living crisis. 

Elsewhere, we saw the price of a variety of items dropping, from a new fridge-freezer and vacuum to the cost of a new pet or the latest bestselling book. Across the spectrum people are starting to see prices drop in certain areas. There’s no escaping the fact that many prices are still rising – but the easing in some sectors is a welcome move in the right direction.  

But the cumulative effect of all the price rises, plus the big impact of increases in rent or mortgage costs, and the higher personal tax burden over the past few years means it’s unlikely many people are feeling the benefit of inflation hitting target just yet. A pertinent factor that many will be taking to the ballot box next month. 

 
 

Inflation hitting target means many will be expecting a cut to interest rates at the Bank’s meeting tomorrow. However, it would be very unlikely for the ratesetters to cut interest rates during an election campaign. The future path for inflation – and so rates – will be impacted by whoever becomes prime minister and how their fiscal policy shapes up. It’s highly likely the Bank will want to wait to see the outcome of the election and the final economic plans before making that first cut. With no meeting in July, that means all eyes are now firmly on the August MPC meeting for our first potential cut to rates.” 

Lily Megson, Policy Director at My Pension Expert, comments:

“With just 15 days until the election, the government will no doubt claim the slowdown in inflation as a victory. But it’s too little, too late for Rishi Sunak. The return to the Bank of England’s 2% target is a positive development, but it cannot erase the prolonged financial hardship faced by many households.

 
 

Following last month’s dip in inflation, the Prime Minister claimed it was proof that the plan is working. But the government must recognise that today’s figures do not signal the end of people’s fight for financial security. Pension poverty, for example, is on the rise. The cost-of-living crisis has made it incredibly challenging for individuals to contribute to their pension pots, leading many towards a difficult, delayed or unattainable retirement.

The next government will have its work cut out. With inflation back at manageable levels, now is the time to help people get back on the path to recovery. Prioritising financial education and ensuring accessible advice for all will be essential. This approach will not only empower people to take control of their financial futures, but also ensures that everyone benefits from any economic recovery over the coming months.”

Rachel Winter, Partner and Investment Manager at Killik & Co, comments: 

 
 

“We’re now firmly in the Bank of England’s goldilocks zone of 2% inflation; a level not seen since 2021. But the question on investors’ lips is when the Bank of England will be confident enough in its data to cut rates and give the economy a much-needed boost.

Despite the Bank of Canada and the ECB having kicked off the rate-cutting season, the BoE is still likely to follow a similar gameplan to the Fed across the pond, taking a wait-and-see approach on employment and the summer slowdown before taking its first shot.

The Euros might bring optimism back to the UK this summer, but we’ll have to wait and see if that optimism filters through to the Bank of England. The Bank will also be considering the impact of the next Budget in the Autumn, which will likely be set by a new government.”

 
 

Derrick Dunne, CEO of YOU Asset Management, comments on this morning’s inflation figures:

“It has been a two year struggle to get inflation back to target, but we’re finally there. Notably inflation is now lower than in both the Eurozone and US, which makes what the Bank of England does tomorrow all the more interesting.

The Bank of England takes lots of factors into account when deciding where its bank rate should be set, including GDP, employment and wage data and other metrics. But ultimately, it is inflation which dictates where rates should be as this is its core mandate. Indications currently suggest that the Committee may look to continue to hold fire to see how the economy tolerates higher rates.

 
 

GDP flatlined in April but was stronger earlier in the year, while wages are now outstripping inflation with no sign of a wage price spiral. The MPC may, therefore, be reluctant to go too hard on cuts if the economy is putting up with current financial conditions. But the outlook is something of a puzzle for rate setters as to cut now could be taken as a gamble that easing conditions won’t reignite demand and therefore price rises.

For savers though, inflation back at target is a signal that they’ll soon need to look elsewhere for better market rates for their cash.”

Peter Stimson, Head of Product at the lender MPowered Mortgages, comments:

 
 

“There’s a brutal irony to the timing of today’s good news. For almost three years, high inflation has prevented the Bank of England from reducing interest rates.

Now CPI is bang on the Bank’s 2% target, the Bank’s next step would ordinarily be to start easing the interest rate pain which has made mortgages more expensive for millions of homeowners and would-be buyers.

But it’s unlikely to do so, as the inflationary block has morphed into an electoral one.

 
 

While the Bank is independent of Government and not part of the Civil Service, it too is in de factor purdah – and cannot be seen to influence the election.

The members of its rate-setting committee are therefore unlikely to cut the Base Rate tomorrow, even if they wanted to.

Not so long ago, Governments set interest rates – and were often accused of abusing this power to win votes at election time.

A quarter of a century ago, this power was taken away from politicians and given to the Bank of England, precisely to prevent this happening.

Then there’s the tricky matter of core inflation. Despite the welcome fall in the headline CPI figure, core inflation remains stubbornly high at 3.5%. This is well above the Bank’s target, and its rate-setters will want to see further improvement here before committing to a rate cut.

So even though mortgage borrowers and lenders are crying out for the Base Rate to start coming down now, we are likely to have to wait until after the election – and probably until August – before relief finally comes.”

Adam Oldfield, chief revenue officer at Phoebus, comments:

It’s encouraging to see inflation getting back in line after one heck of a ride. Today’s continuing fall in inflation to 2% from 2.3% last month is reassuring.

However, after last week’s flatlined ONS figures on April gross domestic product (GDP) after three months of consecutive growth I think, like many, that it will be a tough vote at tomorrow’s Monetary Policy Committee meeting on whether to drop the Bank of England (BoE) interest rate.

I suspect as well as the GDP flatlining, the BoE will not want to be seen as a pawn in the General Election debate, so I would suggest it will likely be July or perhaps even August before we see a rate reduction.”

Tom Stevenson, Investment Director at Fidelity International, comments on the latest inflation data: 

“The return of inflation to the Bank of England’s 2% target is not the end of the cost-of-living crisis but it may mean we are through the worst.

The drop in the headline rate of inflation to 2.0% is welcome news for the Prime Minister, Rishi Sunak, just a couple of weeks before the general election. It will be highlighted by the government as evidence that the economy has stabilised, despite growth stagnating in April.

This is the first month in nearly three years that inflation has been at or below the official target, having peaked at a 40-year high of 11.1% in October 2022. The main driver was food prices, which fell in the month, offset by rising fuel costs.

What is less likely is that the Bank of England will view today’s reading as a prompt to cut interest rates from their 16-year high of 5.25% tomorrow. Under the surface, the rate of services inflation, at 5.7%, remains a concern. Core inflation (excluding energy, food, alcohol and tobacco) eased to 3.5% from 3.9% but also remains well ahead of the Bank’s target.

The Bank is focused on wages, which continue to grow faster than the headline rate of inflation. Another split decision is likely, with a majority expected to vote to hold the bank rate steady for another month. Although the Bank is independent of the government, a rate cut so close to the election would be controversial.

Having paused speeches and other communications during the election campaign, the monetary policy committee would not be able to explain why they had cut rates at this week’s meeting.”

Simon Webb, managing director of capital markets and LiveMore, comments:

“Inflation has eased to 2% in May, hitting the Bank of England’s official target for the first time since July 2021. This marks a significant improvement from the inflationary pressures of the past year.

Core inflation, which removes food and energy prices, was also down to 4.2% from 4.4%, and plays a key part in the Monetary Policy Committee’s interest rate decisions.

It will be interesting to see how this impacts the Bank of England’s decision on the base rate tomorrow. The question is will it be enough to bring it down? And if it does will this be a big win for the Conservatives? Likely it will not be enough for either outcome.”

Jonny Black, Chief Commercial & Strategy Officer at abrdn adviser, comments

“The last time we had inflation this low was April 2021. This is better news for households, and could strengthen the case for an interest rate cut in the near future. 

However, it shouldn’t be taken to mean inflation is no longer something to think about. As recent history has shown us, prices can shoot up quickly, particularly in volatile economic conditions. 

As with so many things, when it comes to financial planning, prevention is very often better than the cure. It is still important that savers and investors look at building inflation mitigation into their long-term strategies. Here, advisers’ expertise and support will really make a difference.”

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