UK inflation edged lower in January, but what matters more for the central bank is the recent strength in wage growth. That said, the outlook for interest rates is still solely dependent on Brexit and that means policymakers will remain on the sidelines for the time being.
For the first time in two years, UK inflation is back below the Bank of England’s 2% target. That said, the fall from 2.1% to 1.8% in January largely reflects the dip in global oil prices towards the end of last year. Our commodities team expects prices to stabilise more-or-less this quarter, which should mean a more benign year for UK inflation. Depending on what happens to petrol prices, we expect headline CPI to remain fairly sticky in the 1.5-2% region for much of this year.
For the Bank of England though, what matters is where inflation goes beyond 2019. Wage growth has stayed strong, and amongst the short-term Brexit warnings, the Bank of England still hinted last week that mounting domestic inflationary pressures could require a faster pace of tightening than currently anticipated by markets. This is one reason why we don’t think a rate hike should be ruled out just yet this year.
Whether core inflation does respond to higher wage pressures relies partly on corporates having sufficient pricing power to pass the costs on. In the current consumer environment, this may not be the case.
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