Inflation in the United Kingdom eased for a second month in December after hitting a 41-year high in October, official data showed on Wednesday, offering some comfort to the Bank of England (BoE) and households struggling with a cost-of-living crisis.
But pressure on households remains intense as food and drink prices rose at the fastest pace since 1977.
Annual consumer prices rose 10.5% in the year through December, down from 10.7% the previous month, the Office for National Statistics (ONS) said Wednesday. Inflation peaked at 11.1% in October.
While the drop is welcome, inflation is still running at levels last seen in the early 1980s.
While lower prices for petrol and clothing pushed down the headline rate, the cost of food and nonalcoholic beverages was 16.8% higher than a year earlier, the sharpest increase since September 1977, led by eggs, milk and cheese.
The Bank of England forecast in November that the headline consumer price index (CPI) would drop from a peak of 11.1% last October to around 5% by the end of 2023 as energy prices stabilize.
But policy-makers have warned of continued upward pressure on inflation from a tight job market and other factors, and financial markets expect the central bank to raise its main interest rate to 4% on Feb. 2 from 3.5%.
"The lower overall (CPI) rate may reduce the risk of a wage-price spiral, but these figures suggest the BoE's job is not yet done," said HSBC senior economist Liz Martins.
Analysts noted an increase in services inflation and accelerating food and drink prices as cause for some concern for policy-makers.
"It's important to note that core services jumped from 6.4% to 6.8%, a development that the BoE should particularly take into consideration, and when added to yesterday's wage data should tilt the balance towards a 50 basis points (bps) hike in February," wrote ING analysts in a note.
The BoE has hiked interest rates nine times since December 2021 to try to lower inflation, and markets are currently placing an 82% chance of a 50 bps rate hike at the next meeting, set for Feb. 2.
The sterling strengthened against the U.S. dollar after the data.
U.K. prices are rising faster than in other major industrialized nations. Annual inflation slowed to 6.5% last month in the U.S., to 9.6% in Germany and 9.2% in the 20 countries that use the euro.
While natural gas prices are below where they were a year ago, just before Russia's invasion of Ukraine, they are still several times higher than they were in mid-2021 and the impact of the increase continues to feed through the economy.
Core CPI – which excludes energy, food, alcohol and tobacco, and which some economists view as a better guide to underlying inflation trends – was unchanged at 6.3% in December, in contrast to economists' forecast for a drop to 6.2%.
Inflation in services prices – which some BoE officials view as signaling more persistent inflation pressures and the secondary impact of higher energy and wage costs – rose to the highest since March 1992 at 6.8%.
"High inflation is a nightmare for family budgets, destroys business investment and leads to strike action, so however tough, we need to stick to our plan to bring it down. While any fall in inflation is welcome, we have a plan to go further and halve inflation this year, reduce debt and grow the economy – but it is vital that we make the difficult decisions needed and see the plan through,'' said U.K. Treasury chief Jeremy Hunt after the figures were released.
Hunt has resisted pay demands from public-sector trade unions, many of whom are taking strike action as their members' wages are rising much slower than inflation and by less than the average in the private sector.
Retail price inflation (RPI), used as a benchmark in some pay talks, was 13.4% in December, down from November's 14.0%.
Britain's economy is set to contract this year as inflation squeezes disposable incomes, and the BoE forecasts unemployment will rise, factors which some BoE policymakers have said mean little or no more tightening is likely to be needed.
Other members of the Monetary Policy Committee (MPC) think it could be a tougher job to steer inflation back to 2% as wages are rising at their fastest rate in over 20 years.
"This week's evidence would suggest that bold action is required," said Hugh Gimber, global market strategist at J.P. Morgan Asset Management, who expects the BoE to raise rates to at least 4.5% before stopping.
With inflation beginning to moderate, attention is now shifting to how quickly it will return to the Bank of England's 2% target.
Economists are particularly focused on the cost of services such as hotels and restaurants, as businesses pass on higher costs to consumers.
Deutsche Bank expects the U.K. inflation rate to drop by 50% this year and reach the central bank's target around the middle of 2024.
"But inflation persistence will, we think, be the key theme for the year as central banks across the world tilt their focus more fully to core inflation, and in particular service prices," the bank said before the December inflation figure was released.
