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Has inflation peaked?

Ben Brettell, Senior Economist, Hargreaves Lansdown:

"A sigh of relief from Mark Carney and colleagues this morning, as December’s inflation figure showed a slight drop to 3.0%.

Inflation’s been a hot topic since the Brexit vote caused a sharp drop in sterling 18 months ago. But logic has always dictated that once the effect of the weaker pound had percolated into the real economy, it should then start to drop out of the year-on-year calculations 12 months later.

In January last year consumer price inflation stood at just 1.8%, but rose to what now looks like a peak of 3.1% in November. It now seems likely we’ll see the rate steadily fall back towards the 2% target over the next year or so, though the ONS reckons it’s too early to say the peak has been reached.

Strip out the Brexit noise and the UK’s underlying economic situation doesn’t look materially different from the rest of the developed world. Big themes like an ageing demographic and the rise of disruptive technologies are exerting downward pressure on prices. I see no reason why UK inflation won’t gradually return to the very low levels which persist among our developed-world peers.

All this has implications for interest rates. Given the continued headwind posed by Brexit uncertainty, I don’t see why the Bank of England would rush to raise rates again this year. I see last year’s quarter point move as more of a tacit admission that the cut to 0.25% was unnecessary in the first place, rather than the start of a sustained upwards trend. I’d be somewhat surprised if rates were higher than 0.75% by the end of the year.

Falling inflation is of course good news for households being squeezed by falling real wages. When the ONS’s labour market report is released next week, we’ll be watching for another upwards move in wage growth, which hit 2.5% in the three months to November."