UK Inflation Stuck at 8.7% in another Cost-of-Living Shock

The lack of movement could mean the Bank of England will hike interest rates to levels that haven’t been seen this century in its attempt to bring about an end to the cost of living crisis, The Evening Standard reported.

Despite a number of supermarkets boasting of price cuts, food prices were still up significantly from last year. Top food retailers cut prices of certain items like bread and milk following a surge in grocery bills in April. But the cost of many other products kept rising, while prices were still higher than in 2022 for many products that were recently reduced.

Even more concerning may be the rise in “core inflation”, which excludes food and energy prices in order to create a less volatile picture of domestic price rises. This rate, closely watched by the Bank of England, rose to 7.1%, after April’s figure was already a 30-year high.

Services inflation, which also tends to be less volatile, rose to 7.4%, sparking fears that the economy could fall into a ‘wage-price spiral’.

Chancellor Jeremy Hunt said the Government would continue to support the Bank as it hikes interest rates to bring prices under control. Last month, he said he would support rate rises even if they plunged the country into a recession.

“We know how much high inflation hurts families and businesses across the country, and our plan to halve the rate this year is the best way we can keep costs and interest rates down,” he said.

“We will not hesitate in our resolve to support the Bank of England as it seeks to squeeze inflation out of our economy, while also providing targeted support with the cost of living.”

The “stickiness” of inflation continues to defy City experts’ predictions, as economists had expected the pace of price rises to fall to 8.4%.

ONS chief economist Grant Fitzner said: “After last month’s fall, annual inflation was little changed in May and remains at a historically high level.

“The cost of airfares rose by more than a year ago and is at a higher level than usual for May. Rising prices for second-hand cars, live music events and computer games also contributed to inflation remaining high.

“These were offset by a fall in the cost of petrol. Food price inflation remains high, but the rate has eased slightly this month with costs rising more slowly than this time last year.”

The UK’s trouble in bringing down inflation also stands out from other rich countries. Britain has the highest rate of inflation in the G7, while in the G20, prices are only rising faster in Turkey and Argentina. In the US, inflation is just 4% and in the Eurozone it’s 6.1%.

George Lagarias, chief economist at Mazars said: “There’s no way to sugar-coat this, 8.7% is a bad number. Inflation has become entrenched and remains high versus other developed market economies.”

The disappointing figure will likely lead to more fears that the Bank of England will hike interest rates even higher and keep them at elevated levels for longer. The bank raises rates to encourage saving over spending and reduce demand in the economy, hoping to slow down price rises until inflation reaches its target of 2%.

The Bank of England will reveal its latest decision on interest rates tomorrow. A 13th consecutive rate rise was seen as near-certain even before today’s figures, but the scale of the inflation problem means the Bank could even consider hiking interest rates straight to 5 percent tomorrow, rather than the more widely expected rise to 4.75 percent.

As the year goes on, the Bank is likely to continue its hiking cycle. Before today’s figures were released, markets saw a roughly 50% chance that the Bank Rate could peak at 6% or higher, a level not seen since 1999. Now, those odds are set to increase.

Gilt yields, which lenders use to price mortgages and are heavily influenced by the expected Bank Rate, will likely soar further, leading to even higher monthly payments for homeowners. The average interest on a two-year fixed-rate mortgage hit 6% earlier this week after yields on two-year gilts rose even higher than in the aftermath of last year’s mini-Budget. Following today’s figures, they are likely to continue their march upward while five-year fixes could approach 6% too.

With most mortgage-holders still on fixed deals with interest of 3% or less, a “time bomb” where millions of homeowners are saddled with higher payments is expected as those fixes expire.

Yet earlier this week, Prime Minister Rishi Sunak said there won’t be extra help for people struggling to make mortgage payments, while Chancellor Jeremy Hunt warned that a bailout for those with mortgages would only make the inflation crisis worse.

The latest reading could also cast doubt over Sunak’s promise to halve inflation by the end of the year, which was seen as an easy target at the time it was made.

On a month-on-month basis, prices rose by 0.7%, with core prices up 0.8%, both down from April but ahead of the expected 0.5% and 0.6%.