U.K. grilled by higher-than-expected inflation

2023-03-24
Summary:

The BoE delivered more dovish tone than the Fed in saying the U.K. interest rates are around their peak though U.K. inflation looks more sticky and scorching. The latest reading unexpectedly rose to 10.4, breaking 3-month stretch of declines.

U.K. inflation accelerated

The sterling hit multi-week highs last week after Chancellor Jeremy Hunt came up with his Spring Budget conditioned on much lower forecasts for interest rates and energy prices than its previous forecast. It also expected the economy to shrink by 0.2% in 2023 and edge back to growth in the year afterwards.


The BoE delivered more dovish tone than the Fed in saying the U.K. interest rates are around their peak though U.K. inflation looks more sticky and scorching. The latest reading unexpectedly rose to 10.4, breaking 3-month stretch of declines.


In contrast, U.S. and Euro zone CPI rose by 6.0% and 8.5% in February respectively. OBR’s prediction that inflation will fall to 2.9% at the end of this year is now in doubt as it has not slowed meaningfully from its peak of 11.1% in October.


Soaring food prices were behind the surprise rise due to bad weather in Europe and supply chain disruption. However, core inflation which strips out the effect of food and energy accelerated to 6.2% from 5.8% in January.


Annual services inflation, a big driver of core inflation, worrisomely rose to 6.6%. In the hospitality sector, it reached its highest rate on record.


Pound set to rise

The Fed decided to press ahead with rate hikes earlier this week amid bank turmoil, following in ECB’s footsteps.


The BoE increased interest rates by a quarter of a percentage point to 4.25% as expected and opened the door to more hikes.


Jake Finney, economist at PwC, said the reading was the first setback in the Bank of England’s mission since inflation began falling in November, and highlighted that inflationary pressures are starting to diverge.


Still the BoE said that inflation was “still expected to fall significantly” in the second quarter of this year “to a lower rate than anticipated” last month.


The U.S. dollar has pared some of its gains having benefited from the haven status last week, and Powell indicted the end may be near for tightening.


In this case, the fundamentals of the British economy will hold sway over where GBP/USD will be heading next.


The pound could rise further this year if it turns out BoE has been overconfident with the current projections and the world does not slip into severe recession in 2023.

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