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Strong pound and oil slump predicted to keep inflation at 0%

Market news
Market news

Inflation is expected to have remained at zero when official figures for July are published today – with the strength of the pound and the slide in the oil price holding back the cost of living.

Sustained low inflation is delaying the timing of any interest rate hike by the Bank of England, meaning households are enjoying low borrowing costs while the economy grows – along with wages.

But the latest figures come as Kristin Forbes, a member of the Bank’s Monetary Policy Committee, warns of risks building up should the UK “linger too long in the sun” of low rates.

Consumer Price Index (CPI) inflation has hovered around zero since February and in April dipped to minus 0.1%, the first time it has turned negative in half a century.

July’s figures, from the Office for National Statistics (ONS), are expected to see CPI at zero for the second month in a row, with a risk that it could turn negative again.

Flat or falling prices ease household finances but policy makers want to avoid a spiral of deflation that could cause consumers and businesses to delay spending.

They must also be alert, when deciding when to raise rates, to the danger of inflationary pressures such as wage rises building up over the next couple of years.

Ms Forbes said in a Daily Telegraph article: “Waiting too long would risk undermining the recovery – especially if interest rates then need to be increased faster than the gradual path which we expect.”

The latest inflation data comes after the Bank of England’s quarterly inflation report earlier this month, which dampened expectations of a rates hike in 2015.

Bank governor Mark Carney said the fall in inflation had been “the most striking development in the UK in the past year”.

The Bank forecasts CPI at zero for July and August before edging up slightly in September, although it allows for a margin of error slightly above or below its predictions.

Mr Carney said the near-term outlook for inflation was “muted” and that the slump in oil prices in recent months “will continue to bear down on inflation until at least the middle of next year”.

He added: “I wouldn’t be surprised if we have another month or two of negative inflation given the very substantial move in oil prices and the changes in utility prices.”

Oil prices have halved since last summer and the prospect of sanctions being lifted against oil-producing Iran, adding to the glut in supply, has wiped out a recovery earlier this year to leave the price of Brent crude at below 50 US dollars a barrel.

Meanwhile, household energy bill cuts by British Gas are also likely to weigh on inflation. The strength of the pound – up by 20% over the past couple of years – is another factor putting downward pressure on CPI because it means cheaper imports.

Samuel Tombs, of Capital Economics, said: “CPI inflation probably held steady at zero in July, but the recent fall in oil prices suggests that the UK is likely to experience another bout of negative inflation before the end of the year.

“Meanwhile, domestic price pressures are still weak, suggesting that inflation will only strengthen gradually next year, enabling the Monetary Policy Committee to raise interest rates at a very slow pace.”

Investec’s Chris Hare said: “Our call on the CPI is that inflation will remain at zero in July, although we judge that there is a material chance that it will ease back into negative territory.”

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