BOE : Surprise Plummet in UK Inflation Sparks Speculation of Abandoned 'Higher for Longer' Policy by Bank of England

Surprise Plummet in UK Inflation Sparks Speculation of Abandoned 'Higher for Longer' Policy by Bank of England 

UK inflation decelerated more than economists had predicted in November, leading traders to increase their wagers that the Bank of England's 'higher for longer' narrative will be abandoned, mirroring The Fed's trajectory.

The November inflation figures revealed that services, core, and headline inflation all surprised consensus and BoE expectations by a significant margin on the downside.

Services inflation dropped to 6.3% YoY in November (down from 6.6% YoY in October), falling below both consensus expectations of 6.6% YoY and the BoE's projection of 6.9% YoY.

Core CPI inflation eased to 5.1% YoY in November (down from 5.7% YoY in October), five-tenths lower than consensus expectations.

Headline CPI inflation decreased to 3.9% YoY in November (from 4.6% YoY in October), also below consensus expectations of 4.3% YoY and the BoE's projection of 4.6% YoY.

These results marked the third unexpected downturn in the past four months, representing the most significant decline since inflation concerns arose in 2021.

The November data, the first instance of food inflation in single digits since June 2022, will support Prime Minister Rishi Sunak, who has pledged to curb prices before the expected election next year.

Nevertheless, Sandra Horsfield of Investec pointed out that the UK public might not celebrate the drop in inflation as much as the markets. She stated, "Lower inflation only means a slower (and still above target) rate of price rises," suggesting that the electoral benefit of meeting Sunak's promise "may be limited."

Chancellor Jeremy Hunt welcomed the data, interpreting it as a sign that "we are starting to remove inflationary pressures from the economy." He acknowledged the ongoing challenges faced by many families with high prices and committed to prioritizing measures to alleviate cost-of-living pressures.

The unexpectedly sharp decline prompted a surge in odds for a BoE rate cut, with March odds increasing and May now factoring in a full cut.

Suren Thiru, economics director at the ICAEW, remarked, "This startling fall in inflation will further reassure people and businesses that there is light at the end of the tunnel in the struggle against eye-watering price rises." He suggested that the inflation numbers indicate the Bank of England's rhetoric on the timing of interest rate reductions may be overly pessimistic.

Ulrich Leuchtmann, head of FX research at Commerzbank AG in Frankfurt, noted that the surprisingly low reading in the UK CPI figures challenges the previous impression that the UK might be slow to implement rate cuts in 2024 and beyond.

The decline in sequential wage growth observed the previous week, combined with recent data on key indicators of inflation persistence, has caught the BoE off guard, leading Goldman Sachs to move up their projection for the first BoE cut to May (from June previously). They anticipate the MPC to cut at a pace of 25 basis points per meeting until the policy rate reaches 3.0% in May 2025.

On a probability-weighted basis, Goldman Sachs' Bank Rate forecast remains significantly below market pricing in the second half of 2024 and into 2025.