CPI falls to 2% – will the BoE cut rates?

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The consumer prices index rose by 2% in the 12 months to May, hitting the official target for the first time since July 2021. Core CPI rose by 3.5%, leading some to believe that the Bank of England will consider it too early to cut interest rates at its meeting tomorrow.  

Figures released by the Office for National Statistics on Wednesday show CPI is down from 2.3% in the 12 months to April, to reach the 2% target the government has given the Bank of England. Other central banks, such as the Federal Reserve and the European Central Bank, also aim for 2% inflation. 

Inflation coming down will be interpreted as a positive sign after CPI peaked at 11.1% in October 2022. However, price pressure remains as prices continue rising from their previous high levels. 

On a monthly basis, CPI rose by 0.3% in May, compared with a rise of 0.7% in May last year. The ONS attributes the largest downward contribution to this to changes in food prices, while motor fuels drove prices slightly higher in May this year compared to a year ago.  

Core CPI, which strips out volatile items like energy, food, alcohol and tobacco, is still higher than CPI. It rose by 3.5% in the 12 months to May 2024, down from 3.9% in April. 

CPI including owner occupiers’ housing costs (CPIH), the statistics office’s preferred measure, went up 2.8% in the 12 months to May, down from 3% in the year to April. 

Does the fall mean the Bank of England’s Monetary Policy Committee – due to meet on Thursday – will start cutting the bank rate from the current level of 5.25%?  

Independent consultant Frank Eich is sceptical. “I would be very surprised if the MPC lowered rates tomorrow. They will want to see a stabilisation in inflation before acting. They will also look beyond headline inflation, what is core inflation, what is happening to wages, labour market developments etc,” he said. 
This is a view shared by Tim Graf, head of EMEA macro strategy at State Street Global Markets, who said: “Headline inflation is back to the Bank of England’s 2% target, but it is doubtful they will ease at any near-term meeting. Core inflation remains sticky at 3.5% year on year, and service price inflation strong.”  

While both measures were boosted, possibly by one-off rises in transport costs, he still expects the net effect will leave the MPC reluctant to cut until further softening is confirmed.  
The September MPC meeting “looks the earliest opportunity for a cut”, he added. 
Dean Butler, managing director for retail direct at Standard Life, observed that UK inflation is now lower than that of other countries. 

“The US and the eurozone are still sat above target, making the UK a positive outlier and adding to speculation that the Bank of England could move to cut interest rates later in the year,” he said. 

Trustees no longer in focus over discretionary increases 

High inflation impacts not only markets and investors, but also incomes. State pensioners are insulated from the issue to some extent through the state pension ‘triple lock’, while defined benefit pensioners typically benefit from an inflation uplift, although this is usually capped at 2.5% or 5%. With inflation outstripping these caps over the past years, there have been calls from pensioner groups to maintain, introduced or increase discretionary increases. 

Simon Kew, head of market engagement at consultancy Broadstone, said: "In the pensions universe, members will now start to see their benefits go further and trustees will face less scrutiny over awarding discretionary increases.” 
Kew said given many schemes have good funding positions, trustees will be glad to be able to focus on their ‘day job’ of “boosting member security and administrative excellence”. 
Unlike in DB, defined contribution pensioners need capital markets to make up for inflation, an issue that will become increasingly important as more retirees will be reliant on DC for their retirement income in future.
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