🔔 Inflation and the base rate stick – but for how long?

The latest inflation figures from The Office for National Statistics (ONS), show that the Consumer Prices Index (CPI) measure of inflation, remained at 2.2% in the 12 months to August 2024, unchanged from July. Whilst this is slightly higher than the government target of 2%, it has fallen a long way from its high of 11.1% in October 2022. But it’s evident that the cost pressures haven't entirely subsided, especially in certain sectors.

Even though inflation has fallen, this doesn’t mean that prices are falling – it means that on average the price of items and services that we buy have risen by this lesser amount. And of course, some items are rising in price by more than others, so what might be a 2.2% rise in the cost of living for some, could be quite different for others.  For example, one supermarket item that has seen a significant increase in price is olive oil! This is because the biggest producers of olive oil, Greece, Italy and Spain have seen some extreme weather conditions that have badly impacted olive growing conditions. Thus supply is low, so prices have increased significantly – by over 40% in the last year alone.

The largest upward contribution to the latest monthly inflation rate came from air fares, which rose this year but fell a year ago. On the flip side the largest offsetting downward contributions came from motor fuels, and restaurants and hotels, which rose more slowly this year than last.

However, core inflation, which strips out more volatile items such as food or energy prices is a key inflation rate that the Bank of England watches as it is a better indication for longer term trends. It was 3.6% in the year to August 2024, up from 3.3%, which will likely be one of the reasons that base rate remained at 5% at the latest Monetary Policy Committee (MPC) meeting. It doesn’t look like inflation is licked just yet. This measure suggests that it might stay unpredictable for a while, and slightly above target. In its latest report, the Organisation for Economic Cooperation and Development (OECD) has said that it expects inflation to reach 2.7% by the end of the year.

It would appear that it’s Services inflation that is proving to be sticky – there are still some significant price rises in this sector which includes a range of service-related categories such as hospitality, culture and education. Wage growth is also included.

Why does inflation influence the Bank of England’s base rate decisions?

The Bank of England uses interest rates to try and keep inflation at 2%.

The idea is that if you make borrowing more expensive by increasing rates, people have less money to spend or may be encouraged to save more instead of spend, if they can earn a decent return on their savings.

This should in turn reduce the demand for goods and slow price rises – lowering inflation.

But it is a balancing act - increasing borrowing costs risks harming the economy.

For example, homeowners face higher mortgage repayments, and businesses borrow less, making them less likely to create jobs. Some may cut staff and reduce investment.

What is happening to the base rate?

The Bank of England cut the base rate to 5% in August, the first fall for four years, and held it at this level at the latest meeting.

Governor Andrew Bailey said cooling inflation pressure meant the bank should be able to cut interest rates gradually over the upcoming months.

But he added: "It's vital that inflation stays low, so we need to be careful not to cut too fast or by too much."

So, it would appear that savers have had a small reprieve, with the Bank of England leaving the base rate at 5% at its latest meeting but it’s important that savers shouldn't be complacent.

Although inflation could still prove to be a bit sticky, analysts are predicting that there will be at least one, if not two more base rate cuts this year – and several next year too.

So, if you haven’t yet locked into a fixed-rate savings product, it could be time to consider doing so while rates are still relatively high. This strategy can provide certainty and protection against any further cuts.