Sticky service prices put rate cuts on ice

Sticky service prices put rate cuts on ice

UK price growth fell last month, with the annual headline rate falling to 2.3% from 3.2%. This is the lowest level since the summer of 2021, and was driven by a decline in the price of household energy bills. The ONS reported that this was the lowest annual rate for electricity and gas prices on record, and prices fell by more than 27% YoY. This was partially offset by an increase in the price of motor fuels. However, the UK still had a lower inflation rate in April than the Eurozone and the US.

Inflation moderation disappoints

The decline in inflation was well flagged and expected, however, economists had expected a deeper decline to 2.1%. Although inflation moderated last month, all readings of inflation on both a monthly and annual basis were stronger than expected.

Annual core price growth moderated to 3.9% last month, from 4.2% in March. This is the first time that inflation has had a 3% handle since November 2021. However, the lack of deeper progress on price growth means that a June rate cut looks less likely today. The pound has shot higher on the back of this data, which is another sign that the market is focused on remaining inflation pressures. Monthly price growth was still robust at 0.3%. The market had expected a reading of 0.1% last month. Although monthly price growth has halved since the 0.6% reding in March, it might still be too strong for some of the hawks at the BOE. On a more positive note, 0.3% is the average monthly growth rate for MoM headline CPI since 2018.

Housing costs: burdened by high interest rates

It is also worth noting that owner occupiers housing costs, included in the CPIH report and not the CPI, rose on an annual basis in April to 6.6%, and is now at its highest level since July 1992! Although the CPIH rate is not used by the BOE to set policy, it does suggest that housing costs are still a massive burden for the consumer. Of course, the best way to ease this pressure would be rate cuts, but we may have to wait for those.

Sticky service prices put rate cuts on ice

Service price growth was also disappointing, it moderated to a 5.9% annual rate, the market had been looking for a reading of 5.4%. The details of the service sector report are mixed. For example, the price of recreation and cultural services were down 0.1% between March and April this year, however, the price of restaurants and hotels along with miscellaneous services all rose between March and April. Restaurants and hotels made the largest upward contribution to the annual CPI rate in April, rising 0.85% compared to a year ago. This suggests that service prices remain sticky, and a cut in interest rates next month might exacerbate cost pressures in this area.

Rate cuts pushed out to September

April’s inflation data has triggered a rapid recalibration of UK rate cut expectations. The market had been pricing in a 50% chance of a June rate cut ahead of this report, but this has now sunk to 19%. The market is now expecting the first rate cut from the BOE in September, with sticky inflation wiping out the chance of a rate cut in the summer.

This data is not good news if you are looking to remortgage, it has also sent GBP/USD back above $1.2750, and we could see further sterling gains later today. We believe that this is bad news for UK equities, which may open softer later this morning.

We assume that the BOE will not be comfortable to cut rates next month, as not enough progress has been made on core inflation, and we will be listening to Huw Pill, the BOE’s chief economist, who speaks on Thursday, for signs that service price inflation remains too hot for a near term rate cut.