Inflation and interest rates: Will we be seeing another cut in September?

Inflation rose for the first time this year in July, jumping back above the Bank of England’s 2% target rate to 2.2%, official figures showed in August.

The rise was mainly driven by prices of gas and electricity falling by less than a year ago, the Office for National Statistics said. Inflation had remained at the Bank of England’s target of 2% for the last two months.

The inflation rise came just two weeks after the Bank of England cut interest rates by a quarter point to 5% from 5.25%, the first reduction since March 2020.

At the time Bank of England Governor Andrew Bailey said inflationary pressures had eased enough to cut interest rates. 

But the decision was finely balanced with the Bank saying it had to be careful not to cut interest rates too much or too quickly.

Should we be worried about the latest small spike in inflation?

Not really. The rise was weaker than experts had expected, with City analysts anticipating a rate of 2.3% and the Bank of England 2.4%. 
Services inflation, which the Bank of England monitors closely, fell sharply to 5.2% from 5.7%, well below the central bank’s forecast of 5.6%. Meanwhile, core inflation decreased to 3.3% from 3.5%.
A slower deceleration in energy prices over the last year pushed up the headline inflation rate in July. Oil, gas and electricity prices rose sharply in the wake of Russia’s invasion of Ukraine in February 2022.
“Inflation ticked up a little in July as although domestic energy costs fell, they fell by less than a year ago,” says Grant Fitzner, chief economist at the Office for National Statistics. “This was partially offset by hotel costs, which fell in July after strong growth in June.” 
The jump in inflation represented the first major piece of tricky economic news for Sir Keir Starmer since he became prime minister although much has happened since.

“The economy is clearly in need of lower interest rates to stimulate growth,” one City expert tells me. “The latest GDP figures, along with the broader long term economic outlook, strongly indicate that the Bank of England is likely to implement at least one more rate cut this year.

“Such a move would be aimed at alleviating the pressures on businesses and consumers, promoting investment, and sustaining economic momentum.

“Given the current economic conditions, further easing of monetary policy appears essential to support a more robust recovery i.e. more rate cuts are on the way.”

The Bank of England will decide its next move on interest rates on September 19 and while pundits remain split on the direction of travel the majority appear to be edging towards another 0.25% cut.

And more signs pointing to another cut came from the British Retail Consortium-NielsenIQ shop price index this month which revealed that UK shop prices have dropped for the first time since the cost-of-living crisis began nearly three years ago.

Food inflation has finally eased and retailers offering discounts on clothes and household goods to shift unsold summer stock pushed prices down 0.3% in the first week of August compared with the same period last year. That compares to a 0.2% rise in July, and the three-month average of 0%.

It also marks the first period of price deflation – where the prices for goods and services decrease – since October 2021.

Last time the decision by the Bank’s nine-member committee was finely balanced - five, including Governor Bailey, voted for a quarter point cut.

But with Prime Minister already warning of a “painful’” Budget in October and saying that “those with the broadest shoulders should bear the heavier burden the September decision by the Bank’s Monetary Policy Committee is likely to be finely balanced once again.