UK inflation fell short of expectations in September, reinforcing speculation about a potential rate cut by the Bank of England (BoE)

The latest UK inflation data, showing a sharp decline in both headline and core inflation, is fueling expectations of potential interest rate cuts by the Bank of England (BoE). Annual consumer price inflation fell to 1.7% in September, down from 2.2% in August, marking the lowest level since April 2021. This drop, driven by lower airfares and petrol prices, came in below market forecasts of 1.9%. Core inflation, which excludes volatile items like energy and food, also eased to 3.2% from 3.6% in August. Notably, services inflation, a key domestic price indicator for the BoE, fell to 4.9%, the lowest since May 2022 and below expectations.

The sharp decline in inflationary pressures has increased the likelihood of interest rate cuts, with markets now pricing in a 90% chance of two quarter-point reductions by the BoE before year-end. The unexpected drop in services inflation is particularly significant, as the BoE had not projected it would fall below 5% in 2023. This lower inflation provides some relief to the government, especially ahead of Finance Minister Rachel Reeves’ first budget.

However, some economists warn that inflation could rebound due to rising oil prices amid the Middle East conflict and expected domestic energy price increases. Despite these risks, with a weakening labor market and ongoing declines in underlying inflation, the BoE is likely to proceed with rate cuts while prioritizing support for economic growth.