Investors cut bets on UK interest rate rise after surprise fall in inflation – as it happened

A late PS: America’s central bank has voted to leave US interest rate on hold.

Federal Reserve policymakers have agreed unanimously to maintain US interest rates at the current level of 5.25% to 5.5%.

Announcing the decision, the Fed’s FOMC committee say:

Recent indicators suggest that economic activity has been expanding at a solid pace. Job gains have slowed in recent months but remain strong, and the unemployment rate has remained low. Inflation remains elevated.

The U.S. banking system is sound and resilient. Tighter credit conditions for households and businesses are likely to weigh on economic activity, hiring, and inflation. The extent of these effects remains uncertain. The Committee remains highly attentive to inflation risks.

The Committee seeks to achieve maximum employment and inflation at the rate of 2 percent over the longer run. In support of these goals, the Committee decided to maintain the target range for the federal funds rate at 5-1/4 to 5-1/2 percent. The Committee will continue to assess additional information and its implications for monetary policy.

But, significantly, the Fed also still expects to raise interest rates by a quarter of one percent by the end of the year.

That’s according to the ‘dot plots’, where Fed policymakers estimate where they think rates will be in future.

Here’s a handy Q&A on today’s inflation figures, from PA Media:

Q: What is inflation?

Inflation is the term used to describe rising prices. The inflation rate refers to how quickly prices are going up.

Every month, the Office for National Statistics (ONS) works it out by checking the prices of a range of items in a “basket” of goods and services, including everyday things such as food and train tickets, or larger purchases like a car and a holiday.

If the price of something rises from £10 to £11 over a year, then that would represent annual inflation of 10%.

Q: What is behind last month’s surprise drop in inflation?

The latest dataset from the ONS showed the inflation rate slowed down last month. Analysts had expected it to rise from July’s figure.

Slowing food prices were one of the biggest reasons why the overall rate fell, with the largest falls coming from milk, cheese, eggs, vegetables and fish.

Hotel and accommodation, and air fare inflation also came down significantly last month, which helped to offset rises in other categories such as fuel prices.

Q: Does a fall in inflation mean things are getting cheaper?

Falling inflation does not mean things are getting cheaper, but that prices are rising less quickly than before.

Households are still facing a cost-of-living squeeze, with prices continuing to climb in supermarkets, and important costs such as petrol and diesel going up.

Other products such as alcohol, coffee and clothing also saw price increases accelerate last month.

Q: What does it mean for interest rates?

The latest figures are especially important because they could encourage the Bank of England to stop raising interest rates for a while.

Most economists thought that the Bank’s policymakers would lift rates to 5.5% on Thursday, from the current rate of 5.25%.

But after August’s inflation figure was released, financial market expectations of a rate hike dropped from about 80% to roughly 50%, meaning analysts think it could go either way.

The Bank watches monthly inflation figures closely because they give an indication of whether rate rises are working to slow the economy and bring inflation back down to its 2% target.

Q: What does it mean for mortgages?

If we are nearing the peak of interest rates then it gives some hope for mortgage holders who may be worried about fixing to a new deal.

But the Bank of England is unlikely to bring down interest rates for some time, meaning households will continue to endure more expensive borrowing.

The average five-year fixed residential mortgage was 6.09% on Wednesday, according to data from Moneyfacts.

Q: What is the outlook for inflation from here?

The Government in January pledged to halve inflation from 10.7% to around 5.3% by the end of the year.

Chancellor Jeremy Hunt claimed the latest fall in the CPI rate shows “the plan to deal with inflation is working – plain and simple”.

He added: “But it is still too high which is why it is all the more important to stick to our plan to halve it so we can ease the pressure on families and businesses.”

The Bank of England thinks that inflation will meet its 2% target by early 2025.

Time for a quick recap.

Investors have been slashing bets on UK interest rates being increased again tomorrow, after a suprise fall in UK inflation.

Britain’s cost of living crisis eased a little last month, with August’s annual inflation rate dropping to 6.7% from 6.8% in July.

Economists had expected a rise, to around 7%, due to rising petrol prices. But instead, the headline rate of inflation fell – as did underlying (or ‘core’) inflation.

Chancellor Jeremy Hunt has hailed the drop as evidence that the government’s plan to halve inflation was on track.

And City investors have been reacting by cutting forecasts for UK interest rates.

Before today, another increase in borrowing costs at noon tomorrow looked to be nailed on. Now it’s more of a coin toss.

Right now, the markets indicate there is a 51% chance that the Bank of England leaves interest rates on hold, for the first time since November 2021, at their current level of 5.25%.

But that leaves a 49% chance that policymakers vote for another rise, taking Bank rate up to 5.5%.

Financial experts are split on what will happen.

Goldman Sachs predicts the BoE will hold rates unchanged, saying:

Combined with their recent dovish commentary, we now expect the MPC to keep Bank Rate unchanged tomorrow and lower our forecast for the terminal policy rate to 5.25% (from 5.5% before).

Sushil Wadhwani, a former Bank of England policymaker, told Radio 4’s Today programme:

I think it makes it less likely that the Bank of England will need to raise interest rates tomorrow.

Berenberg Bank says the decision, due at noon tomorrow, is on a knife-edge.

But another bank, BNP Paribas, predicts the BoE will plump for a ‘dovish’ hike’ – which means raising interest rates, but hinting that they’ve now reached their peak.

The pound fell to a four-month low when the inflation data was released, but has now recovered back to $1.24.

Shares in UK housebuilders have risen, helping to push up the FTSE 100 stock index by almost 1% today.

Today’s UK inflation data now make tomorrow’s Bank of England meeting a close call between a pause and a hike, say analysts at BNP Paribas.

They told clients that the softness in today’s inflation data came as a shock “to us, the market and the BoE” (as we reported back at 6.30am, the markets expected a rise in inflation today).

BNP Paribas predict the Bank will vote to raise borrowing costs, though, saying:

• Today’s soft UK CPI inflation data make tomorrow’s BoE decision a finely balanced one, but we maintain the MPC will err on the side of caution with a ‘dovish’ 25bp hike.

• We think that the MPC will look past some of the weakness in services inflation, as it may be driven by volatility in summer pricing, and wait to be more certain of a more sustained softening in underlying inflationary pressures.

• Risk management considerations would point to the BoE acting tomorrow rather than later.