Yahoo Finance UK interest rates to rise less sharply as inflation drops more than expected
Bank of England concerns eased slightly by latest inflation figures
The Bank of England (BoE) is still expected to hike interest rates at its next meeting in August, but at a slower pace thanks to the latest inflation figures for June.
The City is now expecting that fewer increases may be needed to cool UK inflation after the Office for National Statistics (ONS) revealed on Wednesday that price rises dropped to 7.9%.
It was the lowest in 15 months, below the 8.2% expectation, and almost a full percentage point lower than in May.
Financial markets are betting that there is a 65% chance that Threadneedle Street will only raise rates by a quarter-point next month, from 5% to 5.25%. A larger, half-point, hike is seen as a 35% chance.
UK interest rates are now forecast to peak at around 5.8% in February 2024, down from around 6% yesterday. Earlier this month, the markets had priced in rates rising as high as 6.5% by March.
Read more: UK inflation falls to 15-month low of 7.9% as price rises slow
“It doesn’t really matter too much what the finer details are and what the actual number is as far as markets are concerned, it’s all about the direction; and it’s going the right way,” Neil Wilson of Markets.com said.
James Smith, developed markets economist at ING, said: “Is this enough to convince the Bank of England to opt for a 25 basis point rate hike in August? We think it probably will – but it’s going to be a close call.”
Meanwhile, Giles Coghlan, chief market analyst for HYCM, said: “Bank of England policymakers will still be setting the scene for at least a 25bps rate hike on 3 August after today’s inflation reading. As the headline figure was stagnant at 8.7% throughout both April and May, today’s modest decline to 7.9% may signal to investors that economic pressures are gradually easing.
“For now, the Bank of England will breathe a sigh of relief that at least inflation prints are heading in the right direction. Next month's figures should also fall sharply as that data set will reflect the drop in energy prices the UK experienced in July.”
Watch: Almost one million households face £500 a month mortgage hike, Bank of England warns
The news will come as a slight relief to mortgage holders.
The average 2-year fixed residential mortgage rate today is currently 6.81% – up from an average rate of 6.78% on the previous working day. Meanwhile, the average 5-year fixed residential mortgage rate is 6.33%. This is up from an average rate of 6.30% on the previous working day.
The Bank has so far increased interest rates 13 consecutive times in a bid to tame runaway inflation. Despite the recent fall, inflation is still much higher than the Bank’s 2% target.
The rises have slowed demand for the UK property sector, especially from first-time buyers.
Clare Batchelor, mortgage operations manager at Wesleyan, said rising rates “will ring alarm bells for those seeking a mortgage or who are about to slip onto a variable deal.
“Mortgage rates have recently raced to 15-year highs, heaping hundreds of pounds on household budgets that will already be painfully tight. For those who will be hit by a higher rate in the coming months, it’s recommended to speak to a mortgage adviser now – it can take time to find and secure a deal, and any delay may be costly.”
Read more: LIVE: FTSE 100 and European stocks pop as UK inflation appears to cool
The UK still has the highest inflation rate in the G7, and the third highest among OECD advanced countries, with only Austria and Iceland having higher inflation in June.
Over a longer period, the UK has seen the second largest rise in price levels since June 2019 among OECD advanced economies at 22%, behind only Iceland (at 26 %).
“Policymakers won’t be cheering to the rafters, nor popping the champagne corks just yet, as there remains a long, long way to go before the 2% target is even remotely in sight,” Matthew Ryan, head of market strategy at Ebury, said.
“We expect the Bank of England to maintain its hawkish policy stance for a little while yet, though a return to a 25 basis point rate hike at the August meeting now appears increasingly likely.
“We suspect that the MPC will keep its options open to continue hiking rates beyond then, although for the first time in a while, markets are now eyeing a peak in rates below 6%. This repricing in UK rate expectations has weighed on the pound so far today, which is now back trading below the $1.30 level on the US dollar.”
Watch: How does inflation affect interest rates?
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