UK CPI Review: Inflation Falls Broadly But A Calm Before the Storm?
What are energy induced price rises are now very evident, even more so in the latest PPI data very much contrasting with the more benign picture in April’s more closely watched CPI figures. Thus, having seen headline CPI jump to 3.3% in March and where services rose to 4.5% on the back if what may have been early Easter induced airfare rises, all reversed in April. Indeed, much softer inflation readings were seen broadly in the April data both as those Easter effects unwound (especially airfares) and also those from the array of service and utility prices rise of year dropping out alongside the OFGEM-induced energy price cap cut in prices as well as by government energy support measures. Indeed, the headline was down to a lower-than-expected 2.8% (BoE saw 3.0%) despite a 15% m/m rise in fuel related energy, this offset by services dropping almost a full ppt, taking the core down to 2.5%, a five-year low. Obviously even with Government-paid support measures, CPI inflation will rise afresh from this month but we see it rising back above 3% for the rest of the year but averaging just over 3% for 2026 overall, below consensus and BoE thinking.
Figure 1: Headline And Core Much Softer – For Now?
Source: ONS, Continuum Economics
It is noteworthy that without the rise in fuel prices in the last few months, headline UK inflation would actually be just over 2.1%, ie in line with most projections, (inc the BoE) ahead of the breakout of the Middle East conflict. Even so, a current reality of a headline at 2.8% is below BoE thinking and surely reduces the chance of near-term MPC hikes, not least given the lack of second-round effects. As for the policy outlook, the IMF now says in its Concluding Statement of its latest insight into the UK (out this week), monetary policy should remain restrictive to ensure that higher energy prices do not spill over to core inflation and wage growth. It says that the rise in energy prices will lift headline inflation this year while also weighing on output, complicating policy calibration. Staff assesses that holding the policy rate unchanged for the remainder of the year would maintain a sufficiently restrictive monetary stance to limit second-round effects and keep long-term inflation expectations anchored. However, given exceptional uncertainty, the BoE should retain the flexibility to adjust the monetary stance in either direction (ie hikes or cuts), but be prepared to respond forcefully if second-round effects prove stronger than anticipated.
But while the softer than expected April CPI data will not materially change the story, it is worth noting that base effects are not the full story as not only are adjusted, smoothed m/m data offering more subdued signs but also are more benign company expectations (Figure 2) and also actual recent wage pressures.
Of course this is the calm before the storm, but the fact is that the calm seems more serene than expected until of late – something not unique in Europe to the UK. Admittedly, the immediate outlook is very much a fuel price story. But even here the notable thing is that neither unleaded or diesel prices have followed oil prices in the latter’s recent rally – indeed, both are down in m/m terms in May – is this an indication of demand resistance by consumers!
Figure 2: Company CPI Expectations
Source: ONS, BoE Decision Makers Survey, % chg y/y
But obviously, the April CPI data showed little, if any’ signs of second-round effects, possibly the opposite especially looking at adjusted m/m numbers (Figure 3). But the next few months will be a different, not least as oil price gains may be more persistent than we thought a month ago. But the CPI rate may still be around 3% by year end, some 20-30 bp higher than we previously thought but still some 0.5% ppt below BoE thinking.
Figure 3: Clear Adjusted Core Inflation Drop Continues?
Source: ONS, Continuum Economics, smoothed is 3-mth mov avg