Economists are preparing for more gloomy UK inflation figures next week which are likely to prompt further interest rate increases from the Bank of England.
It comes as the head of the UK’s official economic forecaster, the Office for Budget Responsibility, warned the debt situation was ‘troubling’ and rising rates were putting ‘huge pressure’ on the public finances.
Forecasters are predicting that inflation fell to 8.2 per cent last month from 8.7 per cent in May. That would take inflation to its lowest level since March last year, and is likely to come as a relief to many economists after May’s reading was the same as April’s inflation rate.
But any drop in Wednesday’s figure is will provide little relief for struggling households, particularly mortgage payers, as inflation is well above the Bank of England’s 2 per cent target, meaning further interest rate hikes are likely despite the central bank having raised it 13 times in a row.
The figures are also in stark contrast to the US where inflation slowed to 3 per cent in June, its lowest level in two years. The disparity is likely to pile pressure on the Bank of England to act to avoid becoming an outlier among the advanced economies.
In the red: Inflation is well above the Bank of England’s 2 per cent target
Markets are predicting further increases, projecting the UK base rate will hit at least 6 per cent by the end of the year, levels not seen since the turn of the millennium.
‘Economists, politicians and central bankers will be praying for deceleration,’ said AJ Bell financial analyst Danni Hewson.
Prime Minister Rishi Sunak is among those hoping for a sharp fall in inflation, having pledged to cut it to around 5.4 per cent in 2023.
Marcus Brookes, at Quilter Investors, said the Bank of England remained in a ‘tricky place’ and that interest rates would probably remain higher for as long as 18 months.
He added that while the inflation target could be hit this year, it was ‘going to be tight,’ and could herald a worse economic picture heading into 2024. ‘I think that’s probably putting us on the path to recession because it means the Bank of England has hiked rates quite a lot.’
There is some light at the end of the tunnel, with analysts at Capital Economics predicting inflation will fall ‘more significantly’ in July, to around 7 per cent, due to the fall in Ofgem’s energy price cap at the start of next month.
But fears inflation will persist were heightened this week when official figures showed regular pay grew by a record 7.3 per cent in March, fuelling concerns strong wage growth will raise costs for companies and force them to up prices. Yesterday, the chairman of the Office for Budget Responsibility (OBR) Richard Hughes said there were signs inflation was ‘becoming more embedded’.
One beneficiary has been UK stock markets, which have been boosted by the prospect of the Fed pumping the brakes on its own interest rate hikes.
The FTSE 100 ended the week up 0.08 per cent, or 5.64 points, at 7434.57, up 2.5 per cent over the five days. Sterling, meanwhile, has benefited from the UK’s rate-hiking spree, with the pound at around $1.31 against the dollar after jumping 2.2 per cent this week.
But Interactive Investor’s Victoria Scholar warned the rally could come to an ‘abrupt end’ if UK inflation fell by more than expected next week as traders would be forced to pare back their interest rate expectations.
Higher rates have also pushed up the cost of Government debt, putting pressure on public finances. This month, the Government sold a two-year bond, a ‘gilt’, with an interest rate of nearly 5.7 per cent, the highest of any bond since 2007 as markets demanded higher returns.
The OBR’s Hughes noted: ‘Higher interest rates, higher inflation, hit the public finances much more quickly, and mean that we start feeling the burden of the interest rate rises much more immediately and that’s why the public finances these days feel much more under pressure.’
