Interest Rate Cut in November Highly Likely Following Inflation Decline

UK inflation has fallen to 1.7%, dropping below the Bank of England’s (BoE) target for the first time in three years. This significant decrease has led to speculation in the money markets, where traders now predict a 91% likelihood of a quarter-point interest rate cut at the BoE’s upcoming meeting in early November.

Market Predictions Shift After Inflation Figures

Before the latest inflation data was released, traders estimated an 80% chance of the BoE cutting rates. Following the announcement, expectations have risen to a 91% probability of a quarter-point cut, which would lower the UK interest rate from 5% to 4.75%.

Earlier this month, BoE governor Andrew Bailey indicated that the bank might adopt a “more aggressive” approach to interest rate cuts, depending on ongoing positive inflation trends.

Economic Insights from Experts

“Price pressures are decreasing in the UK,” stated Debapratim De, director of Economic Research at Deloitte. He added that slowing wage growth and reduced services pricing suggest further easing could happen soon. With inflation declining and UK growth slowing, De believes the Bank of England is likely to follow its August rate cut with another 25 basis point reduction in November.

The latest data also showed a slowdown in wage growth, which could further support a rate cut. Gora Suri, an economist at PwC, reinforced the likelihood of a November cut, highlighting that the Consumer Price Index (CPI) inflation fell to 1.7% in September, primarily due to drops in motor fuel and airfare prices. This trend indicates that the UK may be nearing the end of the disinflationary process, which benefits policymakers, consumers, and businesses.

Decline in Services Inflation and Core Inflation

Markets noted a significant decline in services inflation, which dropped from 5.6% in August to 4.9% in September, its lowest level since May 2022. Analysts had expected a decrease to 5.2%. Core inflation, which excludes volatile food and energy prices, also fell more than anticipated, from 3.6% to 3.2%.

Paul Dales, chief UK economist at Capital Economics, cautioned that the most significant drops in core inflation and services inflation were largely driven by the steep decline in airfare prices. He emphasized that the Bank of England may not view this as a sign that domestic price pressures are less persistent.

Dales stated, “A 25 basis point cut in interest rates from 5% to 4.75% at November’s policy meeting seems almost certain. The chances of a subsequent cut in December have increased, but we believe the Bank will keep rates steady at that meeting. However, we expect rates to eventually drop to 3%, lower than the 3.5% to 3.75% currently anticipated in the market.”

Implications for Fiscal Policy and Economic Activity

Neil Birrell, chief investment officer at Premier Miton Investors, noted that the current inflation figures provide a clear path for the BoE to cut rates. He pointed out that this could benefit the government’s fiscal policy. However, he also warned that the situation might indicate economic activity is slowing faster than expected, necessitating stimulus from the Bank, which could conflict with the fiscal tightening anticipated in the upcoming Budget.

As the markets prepare for a likely rate cut by the BoE, ICAEW economics director Suren Thiru emphasized that the latest figures suggest the UK is moving toward a more moderate inflation environment, aided by lower fuel prices. Yet, he cautioned that September’s decline could be reversed this month due to rising energy bills following Ofgem’s energy price cap increase, potentially pushing the headline rate above the BoE’s 2% target.

Thiru concluded that while the conditions seem favorable for a November rate cut, the upcoming Budget is a critical consideration for policymakers. “Though the stars are aligning for a November rate cut, the Budget poses a significant hurdle as rate setters will want to evaluate the inflationary impact of any measures announced before easing policy again,” he stated.