- Written by Michael Rees and Darshini David
- Business correspondent and chief economics correspondent for BBC News
Expectations for interest rate cuts this year remain strong despite a surprise rise in UK inflation last month.
Inflation, which measures how prices rise over time, rose slightly to 4% in December, compared to 3.9% in November.
Economists had expected a slight decline, but rising tobacco and alcohol prices were behind the sudden rise.
But with energy bills expected to fall in 2024, there are expectations of interest rate cuts later this year.
Surges in gas, electricity and food costs, which began with coronavirus lockdowns around the world and were exacerbated by Russia’s invasion of Ukraine, have put household finances under pressure recently.
The Bank of England raised interest rates in an attempt to address the pace of price rises in the UK, which has strained household finances.
The bank’s interest rate currently stands at 5.25%, the highest level in 15 years, which has led to higher mortgage rates due to the higher cost of borrowing money. However, returns on savings also rose.
Financial markets and traders still expect the bank to cut its key interest rate in 2024 because inflation has fallen sharply since it peaked at 11.1% in October 2022, the highest rate in 40 years.
Interest rate cuts coming?
Inflation also fell faster than the bank expected, but is still close to double its 2% target.
But on Wednesday, markets changed their expectations about how much to cut interest rates.
Samuel Toombs, chief UK economist at Pantheon Macroeconomics, noted that the five cuts that investors had taken into account ahead of the latest inflation figures to cut interest rates to 4% this year appeared to be “a stretch”.
But he added that lower energy prices further would lead to lower overall inflation, which he said should give the bank “confidence to cut interest rates for the first time in May,” or fail in June.
Ruth Gregory, deputy chief UK economist at Capital Economics, said she expected inflation to fall below the bank’s 2% target in April, which would leave policymakers “positioned to cut interest rates by June.”
How is your mortgage affected by interest rates? keep in touch.
Sarah Coles, head of personal finance at Hargreaves Lansdowne, said that although “the trend is likely to be bearish” for interest rates, “there are likely to be more hits on the way, as the conflict in the Red Sea increases the risk of… “Shortage of supplies.” This may lead to higher prices.”
Many shipping companies have halted ships using the Red Sea – one of the world’s busiest shipping lanes – following attacks by Houthi rebels in Yemen.
“There is a risk that this could end up being a real disruption,” Ms. Coles added, noting that the sudden rise in inflation in December “shows that the path is going to be bumpy.”
Before speculation that the bank would cut interest rates, mortgage lenders announced cuts in borrowing costs. On Wednesday, Coventry Building Society and Santander announced cuts as competition between lenders continued.
Other countries, including France, Germany and the United States, also saw a “slight rise” in annual inflation in December, Grant Fitzner, chief economist at the Office for National Statistics, told the BBC’s Today programme.
The Office for National Statistics said tobacco and alcohol prices rose by 12.9% in December compared to the previous month, with the former rising due to recent tax increases on the product.
On a positive note, Mr Fitzner said food inflation had fallen “significantly” to 8%. But just because the rate is falling does not mean that goods are becoming cheaper, it just means that their prices are rising at a slower pace.
Gareth Jones, owner of the family-run Singleton Jones delicatessen in Warrington Market, told the BBC that the rise in prices had been “difficult for everyone” and that he had noticed his customers’ shopping habits had changed.
“You see, instead of buying a pound of cheese, they’ll buy three-quarters of a pound of cheese. Talk to them, and they’re all hoping prices will start to come down, but I don’t see it right now,” he said. Not where the economy is going.”
He said that although the prices of his goods have “somewhat stabilized,” they are still at a higher level.
In addition to rising tobacco and alcohol costs, prices of entertainment goods including DVDs, computer games, sports equipment, cat food, and theater admission fees also rose.
Treasury Secretary Jeremy Hunt said that although overall inflation was rising again, “the government’s plan is working and we must stick to it.”
He added: “As we have seen in the United States, France and Germany, inflation does not fall in a straight line.”
But shadow cabinet minister Rachel Reeves said: “Any rise in inflation is bad news for families.”
“Prices are still rising in stores, with the average weekly shop £110 higher than before the last general election, and the average household is expected to be £1,200 worse off under Rishi Sunak’s tax plan,” she said.
Ways to save money on your mortgage
1. Overpayment. If you still have some time to buy a deal at a low fixed rate, you may be able to pay more now to save money later.
2. Move to an interest-only mortgage. It can keep your monthly payments affordable even though you won’t be paying off debt accumulated when you purchased your home.
3. Extend the life of your mortgage. The typical mortgage term is 25 years, but terms ranging from 30 to 40 years are now available.