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Surprise as inflation falls to 2.6% - but what does it mean for you?

Falling fuel prices helped to drive down inflation figures (Jonathan Nicholson/NurPhoto via Getty Images)
Falling fuel prices helped to drive down inflation figures (Jonathan Nicholson/NurPhoto via Getty Images)

The UK’s inflation rate saw an unexpected fall to 2.6% last month – down from 2.9% in May – official figures show.

It is the first fall in the rate since last October and was mainly down to a drop in fuel prices in both petrol and diesel, the Office for National Statistics reported.

Inflation has been rising since the Brexit referendum last summer, driven by the falling value of sterling making the cost of imported goods more expensive.

What does this mean for interest rates?
The fall should kill off any talk of a rise in interest rates. The Bank of England’s Monetary Policy Committee – which sets the national rate – has been moving steadily towards upping the rate from the historic low of 0.25%.

But, economists believe the surprise fall in inflation will cool talk of upping interest rates.

MORE: BoE to hold rates along bumpy road to Brexit – Reuters poll

“These numbers are a real surprise, showing the first drop in inflation since autumn 2016,” said Lucy O’Carroll, chief economist at Aberdeen Asset Management.

“This is going to kill the chances of a rate rise in the short term. We’ll learn more about the Bank of England’s thinking in a couple of weeks, but we can expect the calls for a rate rise to reduce to a whimper.”

The Bank’s inflation target is 2%, so the MPC will still face some pressure to up rates over the coming months.

Graphic shows what went up and down between May and June to influence the inflation figure (Source: ONS)
Graphic shows what went up and down between May and June to influence the inflation figure (Source: ONS)

Does this fall mean my money will go further?
Technically, higher inflation does mean the pound in your pocket does not go as far. It’s been calculated that households are paying £50 a month more because of higher inflation.

Britain’s workers have been caught in the middle of higher costs of food, clothing and services while being squeezed on the other side by stagnating wage growth.

MORE: Brexit: Economic growth forecast to slip as house price growth is slashed in half

Public sector workers, for example, have seen salaries pegged at 1% increases since 2013 as part of the government’s on-going austerity measures.

So, as inflation has been rising, any meagre pay increase has been gobbled up by the effect of rising costs of the weekly shop, filling the car up or catching the train to work.

The Retail Prices Index (RPI) edged lower from an annual rate of 3.7% in May to 3.5% in June. RPI is used to calculate the interest rate for student loans, for example.

MORE: House prices continue to stall with fears a ‘fresh slowdown in London could be under way’

Falling inflation is to be welcomed but as Danske Bank economist Conor Lambe says: “The latest labour market data showed that the rate of nominal wage growth over the year to March-May 2017 was 2%t. Therefore, despite today’s fall in the inflation rate, real wage growth is still in negative territory.”

How various categories have reacted over the past year to affect inflation (Source: ONS)
How various categories have reacted over the past year to affect inflation (Source: ONS)

How have the markets reacted?
Sterling plunged a full cent against the dollar as an immediate reaction to the news, hitting $1.3020 as traders adjusted their position on possible interest rate rises. It had recovered slightly by midday. The pound also fell nearly 1% against the euro to €1.1271.

After an initial drop on the FTSE 100, the share index recovered. The reaction of the FTSE is usually the inverse of sterling, as a weaker pound boosts the value of overseas earnings of the global companies in the index.

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