UK inflation unexpectedly fell last month to its lowest level in a year, raising questions over whether the Bank of England will raise interest rates next month.
In the latest sign of the waning impact of the Brexit vote on household finances, the consumer price index (CPI) dropped to 2.5% in March, according to the Office for National Statistics. Economists had expected the annual rate of growth in prices to remain unchanged at 2.7%.
Sterling fell by a cent against the dollar on foreign exchanges, taking it back below $1.42, as economists said the bigger-than-expected moderation for the rising cost of living weakened the case for an interest rate hike next month.
However, many economists still expect the Bank of England, which had been forecasting CPI to average 2.9% over the first three months of 2018, to raise rates in May.
James Smith, an economist at ING Bank, said: “May still looks like a fairly done deal but it might give them a bit of a headache for raising rates later this year.”
Inflation has fallen in recent months as the impact of the sudden drop in the value of the pound after the EU referendum begins to fade. Having pushed up the cost of imported goods, the slide for sterling damaged the economy as squeezed consumers reined in their spending.
However, the Bank has warned that an upswing for global growth could push inflation up again, putting upward pressure back on the cost of living in the UK just as the effects of the Brexit vote diminish. Mark Carney, the Bank’s governor, has also argued that the economic growth rate at which higher inflation is triggered is lower than at the time of the 2008 financial crisis.
In its latest snapshot the ONS said women’s clothing prices rose more slowly than usual for this time of year, while alcohol and tobacco also helped to ease the pressure on inflation. There was some upward pressure from the rising cost of recreation and cultural activities, as well as from car prices.
Philip Hammond’s decision to move the budget to the autumn meant there were no changes to tobacco duties at this time of year, as can typically be the case. Government statisticians also said the price of goods leaving factories continued to slow, attributing this to a smaller increase in the price of food products.
Economists at Barclays said bad weather conditions from the “beast from the east” in March and the absence of any increase for tobacco duty meant inflation could rise within the next month, adding: “A good portion of the decline can be explained by one-off factors that are likely to reverse.”
The drop in inflation will come as the latest signal of strength for the UK economy after new figures this week showed rising real earnings for British workers. Mel Stride, financial secretary to the Treasury, said the drop in inflation was “further good news” after the figures showing wage growth. “We want everyone to be able to earn more and keep more of what they earn, so more pounds stay in people’s pockets,” he said.
Labour said the inflation figures were still above the Bank of England’s target rate set by the government of 2%, which meant there was still significant pressure on households.
There are also further warning signs for the road ahead, as ministers negotiate the country’s withdrawal from the EU. The International Monetary Fund forecasts Britain’s economy will underperform the rest of Europe, except Italy, over the course of the next two years.
There is also the prospect that rising global trade barriers triggered by Donald Trump’s standoff with China could derail hopes for the UK to strike free trade deals around the world after Brexit.
