UK inflation has fallen to its lowest level since March 2025, bolstering the case for the Bank of England to cut interest rates at its upcoming meeting next month. Data released on Wednesday showed the Consumer Price Index rose 3% year-on-year in January, down from 3.4% the previous month, which had been temporarily boosted by volatile components. The figure matched economists' forecasts but was slightly above the central bank's projection of 2.9%. A decline in petrol prices was the primary driver behind the slowdown. Additionally, falling airfare and food prices exerted downward pressure on the CPI, offsetting increases in hotel costs.
The latest inflation figures keep the Bank of England on track for a potential spring rate cut. Money markets remain steady, pricing in two 25-basis-point reductions this year, with the first possibly as early as next month. The pound dipped 0.1% against the U.S. dollar to 1.356, while government bond yields held firm, with the 10-year gilt yielding 4.38%.
However, lingering price pressures may reinforce the stance of the three most hawkish members of the Monetary Policy Committee. Services inflation, a closely watched indicator, eased to 4.4%, still above economists' expectations of 4.3% and significantly higher than the Bank's forecast of 4.1%. Core inflation edged up to 3.1%, exceeding the central bank's 2.9% estimate, though it remains at its lowest level since 2021.
James Smith, developed markets economist at ING Groep NV, cautioned that elevated services inflation stems from underlying pressures rather than volatile factors like airfares or holidays, suggesting inflation may prove more persistent. By his calculations, the Bank's preferred "core services" inflation measure has rebounded from 4% to 4.3%. Sanjay Raja, chief UK economist at Deutsche Bank, described the stickiness in services inflation as "bad news" and indeed "a cause for concern."
Goods inflation, which offset the higher readings in services and core inflation, dropped sharply from 2.2% to 1.6%. Wednesday's CPI report is the final inflation release before Bank of England officials vote on interest rates at their March 19 meeting. The central bank expects CPI to return to its 2% target this spring as measures announced by Chancellor Rachel Reeves in the November budget begin to impact living costs.
In response to the data, Reeves stated that reducing inflation remains her "top priority." A year ago, her budget raised a range of administrative costs, but these factors will be excluded from April's CPI calculations.
According to Zara Nokes, global market strategist at J.P. Morgan Asset Management, the UK has "finally turned a corner." She noted that the data shows "a marked decline in headline inflation and broad-based disinflation across sectors," adding that rate cuts are likely to be front-loaded.
Dovish members of the Monetary Policy Committee may find encouragement in the overall inflation figures, which follow a weak jobs report showing slowing wage growth and unemployment hitting a five-year high. Economists Dan Hanson and Ana Andrade observed, "January's drop in inflation may mark the start of a rapid decline in the coming months, with the Bank's target measure likely to get very close to 2% by April. The latest data supports our view that underlying cost pressures will ease only gradually. But with unemployment rising and wage growth slowing, the Bank may cut rates further to guard against downside risks. We anticipate cuts in March and June."
Further evidence suggests goods inflation will continue to decline in the coming months, as input producer price growth slowed to 2.5% year-on-year from a revised 3.1% in December, while output price inflation eased from 0.5% to 0.2%.
At its February meeting, the Bank of England held rates steady by a narrow 5-4 vote, reflecting divisions among officials over the timing and pace of easing. Among the five policymakers who voted against a cut, some—including Governor Andrew Bailey and Catherine Mann—had previously hinted they might shift their stance given further evidence of cooling inflation. However, Chief Economist Huw Pill, one of the more hawkish voices on the committee, warned that rates remain "a little too low" and should be held steady for longer.
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