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UK Inflation Exceeds Expectations in May, Piling Pressure on the Government and Bank of England

LONDON — U.K. inflation came in hotter than expected in May, as consumer prices rose by an annual 8.7%, unchanged from the previous month.

Economists polled by Reuters had projected an annual rise in the headline consumer price index (CPI) of 8.4%.

On a monthly basis, headline CPI increased by 0.7%, while core inflation — which excludes volatile energy, food, alcohol and tobacco prices — gained by an annual 7.1%, up from 6.8% in April and the highest rate since March 1992, according to the Office for National Statistics.

“Rising prices for air travel, recreational and cultural goods and services, and second-hand cars resulted in the largest upward contributions to the monthly change in both the CPIH and CPI annual rates,” the ONS said.

The Consumer Prices Index including owner occupiers’ housing costs (CPIH), the ONS’ preferred metric, rose by 7.9% in the 12 months to May 2023, up from 7.8% in April.

Inflation dipped below 10% in April but continues to exceed consensus forecasts and remains significantly higher than the Bank of England’s 2% target.

The central bank will announce its next monetary policy decision on Thursday and is widely expected to implement its 13th consecutive interest rate hike as it faces the perilous balancing act of reining in inflation without creating a mortgage crisis and recession.

Sticky inflation and a persistently tight labor market have led economists in recent weeks to increase their forecast for peak interest rates, and the cycle of monetary policy tightening is now expected to last longer than previously expected.

The Organization for Economic Cooperation and Development projected earlier this month that the U.K. will post annual headline inflation of 6.9% this year, the highest level among all advanced economies.

The persistence of the country’s cost of living crisis, with U.K. CPI the highest in the G7, will also be a headache for the government. Prime Minister Rishi Sunak promised to halve inflation by the end of this year ahead of a general election in 2024.

“We know how much high inflation hurts families and businesses across the country, and our plan to halve the rate this year is the best way we can keep costs and interest rates down,” Finance Minister Jeremy Hunt said in a statement Wednesday.

“We will not hesitate in our resolve to support the Bank of England as it seeks to squeeze inflation out of our economy, while also providing targeted support with the cost of living.”

‘A bitter pill to swallow’

For consumers, investors and the government, Wednesday’s print will be a “bitter pill to swallow,” according to Marcus Brookes, chief investment officer at Quilter Investors.

“The U.K. really does seem to be suffering from a more unique set of circumstances and this is leaving the Bank of England with little choice, despite consensus that this inflation is driven more by supply issues than demand ones,” he said.

“Ultimately, while the UK consumer has held up fairly well in the cost of living crisis to date, we are starting to see signs of buckling, with the looming mortgage shock coming further into view and interest rates now beginning to bite on households.”

Brookes suggested that further rises in interest rates — which the Bank of England has hiked from 0.1% to 4.5% over the past 18 months — will exacerbate growing fears of a mortgage crisis. However, he said the Bank will now “feel like it has no choice, especially with core inflation now rising again.”

Suren Thiru, economics director at ICAEW, said the hotter-than-expected May print shows the fight against inflation is “far from over,” particularly given sky-high food bills and rising core inflation.

The food and non-alcoholic beverages CPIH was 18.4% year-on-year in May, down slightly from the 19.1% of April, but still highlighting the squeeze of surging prices on British households.

“The U.K.’s inflation trajectory over the summer is largely locked in, with lower gas and electricity bills from July set to drive notable falls in the headline rate,” Thiru said.

“While core inflation is proving troublesome, the painful squeeze on consumer spending from soaring mortgage costs and higher taxes should soon put it on a downward path.”

Source : CNBC