UK inflation fails to rise and market forecasts are likely to be cut

UK annual inflation has remained unchanged at 2.6% in July, as measured by the consumer price index (CPI). More significantly, this is the second consecutive downside surprise versus consensus expectations.

The majority of forecasters had expected an increase to 2.7%, but the latest miss will lead to many downgrading their inflation estimates for the rest of this year and next.

Returning to the details of the inflation report, core inflation, which excludes energy, food, alcoholic drinks and tobacco, remained unchanged at 2.4% against expectations of a rise to 2.5%. Meanwhile, inflation measured by the retail price index rose from 3.5% to 3.6%, driven by faster house price inflation, and highlighting the inappropriateness of this index.

Although transport prices remain the biggest contributor to the CPI index’s year-on-year figures, the sub-index was the biggest downward contributor on the month. However, this was offset by positive contributions from food prices in general, clothing and footwear, housing and household services and furniture and households goods.

Impact of weaker sterling is waning

Separately, the Office for National Statistics also published the latest producer prices index (PPI), showing both input and output inflation was lower than expected. This is an important report at the moment as it is helping economists track the impact of the depreciation in sterling on companies, which eventually impacts the consumer.

The latest figures show both input and output PPI inflation slowing – suggesting that we could be past the peak of the impact from the currency devaluation. Taken together with the latest CPI data, it appears that the impact from sterling is passing through faster than previously expected, which should mean lower inflation especially in 2018.

No change to our forecasts

This is consistent with the Schroders forecast, which is towards the bottom of consensus estimates for next year, and monetary policy remaining lower for longer. It would now seem to be almost impossible for the Bank of England to raise interest rates while inflation is close to its peak, and UK growth the weakest in the G7.