UK inflation surged unexpectedly to 3.0% in January, reaching its highest level in 10 months and raising concerns about the Bank of England’s (BoE) forecast for easing price pressures in the future.
Both the BoE and economists polled by Reuters had anticipated a smaller increase, forecasting inflation to rise to 2.8% from December’s 2.5%.
The Office for National Statistics attributed the jump to a smaller-than-usual drop in air fares, a volatile factor that had helped bring inflation down in December. Rising automotive fuel prices and an uptick in food costs also contributed. Additionally, private school fees increased following Prime Minister Keir Starmer’s government decision to apply value-added tax (VAT) to them.
Service prices, which are central to the BoE’s decision-making on interest rates, rose sharply to 5.0% from 4.4%, though still below the 5.2% anticipated by economists and the central bank.
Sterling briefly strengthened against the dollar after the inflation figures were released, before returning to pre-release levels. Zara Nokes, global market analyst at J.P. Morgan Asset Management, noted that the combination of the higher-than-expected inflation and strong wage growth figures would present a significant challenge for the BoE.
“With the hike in employer taxes and the minimum wage increase still coming down the tracks, it is hard to see how inflation dynamics will improve meaningfully in the near term,” Nokes said.
Finance minister Rachel Reeves’ decision to raise employers’ social security contributions takes effect on April 1, coinciding with a nearly 7% increase in the minimum wage. This raises concerns about how these higher costs for businesses might impact prices. Ruth Gregory, economist at Capital Economics, suggested that while she still expects the BoE to gradually reduce borrowing costs, the risk remains that inflation could prove more persistent, slowing the pace of rate cuts.
The BoE forecasts that inflation will peak at 3.7% in the third quarter of 2025, primarily driven by rising energy costs and regulated tariffs for essential services like water supply.
However, Governor Andrew Bailey and his colleagues remain optimistic, predicting that a slowing job market will limit wage demands and help ease inflationary pressures.
Core inflation, which excludes volatile categories like energy, food, alcohol, and tobacco, rose to 3.7% from 3.2% in January, in line with expectations from the Reuters poll.
