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British inflation unexpectedly slowed to 2.5 percent in December, easing pressure on Chancellor Rachel Reeves and paving the way for the Bank of England to continue cutting interest rates next month.
Consumer price inflation was lower than November’s 2.6 percent reading, driven down by restaurant and hotel prices. Analysts expected inflation to remain stable last month.
Wednesday’s data will provide some relief for Reeves, who is face higher borrowing costs fueled by fears that the UK economy is entering a period of stagflation, in which sluggish growth is accompanied by persistent price pressures.
But economists still expect inflation to reaccelerate in the coming months, especially since December’s decline was due to volatile factors such as lower airfares.
“There is still work to be done to help families across the country cope with the cost of living,” Reeves said Wednesday, insisting that she will “fight every day” to ensure growth and improve the standard of living.
The recent increase in UK government borrowing costswhich last week hit a 16-year high, threatened to undermine the chancellor’s promise to balance daily spending with tax revenues by 2029.
But Wednesday’s inflation data sparked a rally in British government bonds, sending the 10-year yield down 0.08 percentage points in early trading to 4.81 percent.
Sterling strengthened after the release, rising 0.1 percent to $1.222.
Zara Nokes, analyst at JPMorgan Asset Management, said: “After a difficult start to the year, this morning’s inflation figures will provide some relief for Chancellor Reeves.”
She added that a higher inflation figure could have been “a catalyst for greater volatility in the gilt market”.
The Office for National Statistics report comes as the BoE’s Monetary Policy Committee prepares to hold its first meeting of 2025 next month.
Following the release of the data, traders were pricing in an 80 percent chance of a quarter-point decline in February, up from around 60 percent previously, based on levels implied by swap markets.
Rob Wood, UK economist at Pantheon Macronomics, said the lower-than-consensus inflation figure gave the BoE a “window of opportunity to cut rates in February”.
However, he called the figure a “temporary reprieve”, adding that the sharp drop in airfares was likely to be reversed in January.
Data on Wednesday showed that services inflation, which is closely monitored by the BoE as a gauge of underlying price pressures, slowed sharply to 4.4 percent from 5 percent previously.
It was also lower than the 4.9 percent figure economists had expected.
Core inflation, which excludes food and energy, fell to 3.2 percent from 3.5 percent.
The figures come as Reeves faces increasing pressure over the impact of decisions she made in October’s Budget, including increasing employers’ national insurance contributions.
The chancellor ignored calls for her resignation on Tuesday, after her Conservative counterpart Mel Stride accused her of being part of a “Shakespearean tragedy” amid bond market turmoil.
Stride welcomed the inflation figure on Wednesday, but warned there were “still challenges ahead”, with the rise in employers’ national insurance “yet to hit” and likely to lead to a price increase.
Liberal Democrat Treasury spokeswoman Daisy Cooper said the unexpected drop in inflation offered “a glimmer of hope, but the reality is that the UK economy remains stuck in the mud”.
Growth was “no where to be found”, she added, after the government’s “damaging” increase in employers’ national insurance.
Treasury chief secretary Darren Jones claimed on Wednesday that the pressure on Reeves over market turmoil was “unfair”, telling LBC that many of the problems were due to “global movements in international markets” and noting that other countries faced similar challenges.
