UK inflation falls to lowest since March 2025: expectations grow for a rate cut

UK inflation has dropped to its lowest level since March 2025, reigniting the debate over an imminent monetary easing by the Bank of England. In January, consumer prices rose by 3% year-on-year, slowing from 3.4% in December, according to data released by the Office for National Statistics. The figure is in line with market expectations and slightly above the 2.9% forecast by the central bank.

The deceleration was mainly driven by lower fuel prices, along with a decline in airfares and food prices. In contrast, hotel costs increased. Services inflation, closely watched as an indicator of domestic price pressures, fell to 4.4%, while core inflation stood at 3.1%, the lowest level since 2021 but still above the central bank’s projections. The slowdown in goods was more pronounced, with the rate falling to 1.6% from 2.2%.

Money markets continue to price in two 25-basis-point cuts in 2026, with a first move potentially coming at the March 19 meeting. The pound weakened slightly against the dollar, signaling growing expectations of a less restrictive monetary policy.

The central bank expects inflation to return to its 2% target in the spring, partly thanks to base effects linked to fiscal measures introduced in November’s budget by Chancellor of the Exchequer Rachel Reeves, whose administrative impacts will drop out of the index calculation.

However, the overall picture remains complex. The recent weakness in the labor market, with rising unemployment and slowing wage growth, strengthens the more dovish wing of the Monetary Policy Committee. Yet internal divisions remain evident: at the February meeting, the decision to keep rates unchanged passed by a narrow 5–4 vote.

Andrea Pelucchi