UK inflation rate falls below target to 1.7%

UK inflation slid to its lowest level since April 2021 last month and below the Bank of England’s 2 per cent target, increasing the chances of an imminent cut to interest rates.
The rate of price growth in the UK economy slipped to 1.7 per cent on an annual basis in September from 2.2 per cent in the previous month, according to the Office for National Statistics.
City analysts had expected the rate to drop to 1.9 per cent, while the Bank of England had forecast a smaller decline to 2.1 per cent.
The drop was driven by lower air fares and petrol prices in September compared to the same month last year. This was offset by growth in food and non-alcoholic beverages inflation, which rose to 1.8 per cent from 1.3 per cent, the first jump since March 2023. Food inflation peaked at nearly 20 per cent that month.
The pound dipped against the US dollar on the news, falling by 0.62 per cent to below $1.30, and fell by 0.49 per cent against the euro to €1.194. The yield on the 10-year UK government bond slid 1.8 per cent to 4.1 per cent on the prospect of more rate cuts, with yield on the more rate-sensitive two-year bond fell 2.5 per cent to 4.03 per cent.
Darren Jones, chief secretary to the Treasury, said: “It will be welcome news for millions of families that inflation is below 2 per cent. However, there is still more to do to protect working people, which is why we are focused on bringing back growth and restoring economic stability to deliver on the promise of change.”
The rapid fall in inflation could provide a boost to Rachel Reeves, the chancellor, ahead of her first budget on October 30 by increasing market expectations for faster interest rate cuts by the Bank of England.
The chancellor told a cabinet meeting on Tuesday that she intended to plug a £40 billion funding gap at the fiscal event, which could involve capital gains tax increases and subjecting employers’ pension contributions to national insurance.
Grant Fitzner, chief economist at the ONS, said: “Inflation eased in September to its lowest annual rate in over three years. Lower airfares and petrol prices were the biggest driver for this month’s fall.
“These were partially offset by increases for food and non-alcoholic drinks, the first time that food price inflation has strengthened since early last year. Meanwhile, the cost of raw materials for businesses fell again, driving by lower crude oil prices.
September’s inflation figure is used to determine the rise in benefit payments to households. A lower than anticipated figure will put downward pressure on welfare payments but could curb the government’s tax income from “fiscal drag”, where workers are pushed up the tax ladder after they receive a wage increase.
The figure also feeds into the pensions “triple lock” calculation, which sees pensions rise by whichever is greatest out of earnings growth, inflation and 2.5 per cent. The state pension is poised to jump by £460 next year thanks to elevated wage growth of around 4 per cent in the three months to July.
The slide in the rate of inflation to below the Bank of England’s 2 per cent target represents another step in the UK’s battle against inflation. Price growth surged to a more than 40-year high of 11.1 per cent in October 2022, fuelled by rising energy prices in the wake of Russia’s invasion of Ukraine.
However, inflation had started to tick up before the invasion, hitting 5.4 per cent by the end of 2021 thanks to constrained supply colliding with a resurgence in consumer demand following the end of Covid-19 lockdowns. Since 2021 prices have climbed by more than a fifth.
In response to this increase, the Bank of England started lifting interest rates in December 2021 before cutting them for the first time in more than four years in August this year by 25 basis points to 5 per cent.
Below-target inflation in September will strengthen the case for the central bank to lower borrowing costs at its next meeting on November 7, a move that traders had already priced in.
Paul Dales, chief UK economist at Capital Economics, a consultancy, said that a rate cut next month already seemed “nailed on” before the September inflation figures, but added: “The chances of that being immediately followed by another 25 basis points cut at the following meeting in December has just gone up.”
Thomas Pugh, economist at RSM UK, said the data provided “clear evidence that disinflation is continuing to move through the economy at pace, and should reassure the Bank of England that it can move to cut interest rates more aggressively without stoking higher inflation”.
There are contrasting views among the Bank’s nine-strong monetary policy committee (MPC), which convenes every six weeks or so to set the base rate, over the persistence of inflation and the pace at which monetary policy should be relaxed.
Earlier this month, Andrew Bailey, the Bank’s governor, said the central bank could be a “bit more aggressive” in easing policy. In contrast Huw Pill, its chief economist, said that rates might need to stay higher to treat lasting inflationary pressures.
Services inflation, a closely watched metric by the MPC, fell sharply to 4.9 per cent in September, down from 5.6 per cent. Core inflation, which removes food and energy price movements, declined to 3.2 per cent from 3.6 per cent in August.
An array of opinions on the severity of price pressures among the MPC indicates that upcoming votes on interest rates will be tightly contested. In August the panel voted narrowly 5-4 in favour of cutting rates by a quarter point.