UK inflation standoff forces Bank of England to hold fire, for now

Today’s figures are not good viewing for those hoping for a cut to interest rates when the Bank of England’s Monetary Policy Committee meets tomorrow.

With wage growth and services inflation running hot, the MPC is very likely to keep rates on hold.

However, given the economy is growing slower than desired, we expect at least one more interest rate cut before the end of the year – as long as inflation doesn’t escalate much further.

The latest data confirm that price pressures remain stubborn even as momentum across the wider economy cools.

Headline consumer inflation held at 3.8% in August, twice the Bank of England’s target and unchanged from July. The stickiness alone would be enough to stay the MPC’s hand. Dig deeper and the picture is more troubling.

Pay packets continue to climb at a pace incompatible with a two-percent inflation goal. Services inflation, the best gauge of underlying demand, may have eased slightly to 4.7 percent but it still signals that households and businesses are bidding up prices in the very sector that is hardest to cool.

This tension, between a labour market that refuses to soften and an economy edging toward stagnation, defines the policy dilemma. GDP growth is anaemic, with the ONS showing only a modest rebound after the flatlining of early summer. Business investment surveys point to hesitation as higher borrowing costs bite. Consumer confidence remains fragile.

Yet wage settlements and hiring plans tell the Bank that demand is far from extinguished.

Financial markets have already priced in a pause. Futures imply that the Bank Rate will stay at 4 percent tomorrow and possibly through the autumn. Gilt yields climbed after today’s release, reflecting investors’ recognition that the inflation fight is not over. Sterling also firmed, a sign that traders believe Threadneedle Street must maintain its restrictive stance for longer.

The Bank will not be blind to the political backdrop. Chancellor Rachel Reeves faces mounting pressure over her first budget due on 26 November.

Speculation about tax rises to plug a fiscal gap is unsettling boardrooms. Employers warn that the planned £25 billion increase in national insurance contributions will squeeze margins and could push retail prices higher, precisely the opposite of what monetary policymakers need.

Any hint of fiscal loosening to soften the pain would further complicate the MPC’s job.

Energy markets add another layer of uncertainty. Global oil prices have crept up as Middle East tensions simmer, feeding directly into UK pump prices that the ONS highlighted as an August driver.

Food costs also continue to edge higher, with vegetables, dairy and even chocolate seeing double-digit annual increases. These are not one-off shocks but persistent categories that keep household expectations of inflation elevated.

Still, there are reasons to believe that today’s stalemate will not last indefinitely. Core inflation, which strips out volatile food and energy, slipped to 3.6 percent from 3.8 percent.

Survey data on input costs show manufacturers paying less for raw materials than earlier in the year. Freight rates have eased after last winter’s spike. And the Bank’s own forecasts suggest headline inflation could drift closer to target by early 2026 if there are no fresh global supply shocks.

That outlook underpins my view that the MPC will resume cutting rates before year-end. Five consecutive reductions since the summer of 2024 have already taken the sting out of mortgage and corporate borrowing, but the full effect takes time to filter through. Holding at 4 percent tomorrow preserves credibility while leaving room to pivot once wage growth shows clear signs of slowing.

For investors and corporate treasurers, the message is to remain alert but not paralysed.

Sterling assets still offer attractive yields relative to peers, particularly if the Bank stays vigilant.

Long-dated gilts look appealing as the peak in real rates comes into view. Equities tied to domestic consumption will continue to face headwinds until households feel relief, but globally exposed UK firms can benefit from a stable currency and improving trade conditions.

The path ahead is narrow. If services inflation refuses to ease, the Bank could be forced to hold rates well into next year, risking a deeper growth slowdown. If geopolitical shocks lift energy costs sharply, the inflation peak forecast at 4 percent could be breached, delaying cuts further.

However, if the current glide continues, meaning gradual disinflation, slower hiring, and subdued global demand, the MPC will have the cover it needs to support a fragile recovery.

Today’s numbers show why monetary policy is an art of patience. The Bank must signal resolve against entrenched price pressures while preparing to act when the balance tips toward growth risk.

I believe that tipping point will come before the year is out, provided the August stalemate does not harden into something more persistent.