UK inflation hits 2.5% – the highest rate in almost three years

Cost of living rises higher than Bank of England's 2% target as economy reopens

A man fills up his car from a petrol pump at a garage in Ellesmere Port in north-west England. The UK saw the sharpest annual rise in petrol and diesel prices for more than a decade, up 20.3 per cent in June. AFPShow less

Britain’s annual inflation rate rose to 2.5 per cent in June, its highest level in almost three years, after prices surged as the economy reopened

The jump in the country's Consumer Prices Index from 2.1 per cent in May was caused by a surge in prices for food, fuel, clothing and eating out as the country continued to ease Covid-19 restrictions, the Office for National Statistics said.

“Inflation rose for the fourth consecutive month to its highest rate for almost three years,” said Jonathan Athow of the ONS.

“The rise was widespread, for example coming from price increases for food and for second-hand cars where there are reports of increased demand.”

While some of the increase is from temporary effects, such as the sharpest annual rise in petrol and diesel prices for more than a decade in June, up 20.3 per cent, Mr Athow said much of it stems from prices recovering from lows earlier in the pandemic.

“An increase in prices for clothing and footwear, compared with the normal seasonal pattern of summer sales, also added to the upward pressure this month,” he said.

Inflation has accelerated sharply since March, when the UK government started its phased lifting of coronavirus restrictions with schools reopening that month and non-essential retail and outdoor hospitality opening in April.

The inflation rate exceeded 2 per cent in May, breaking the Bank of England's target level for the first time since 2019.

Meanwhile, the economy is set to fully reopen on July 19, with the lifting of almost all Covid-19 curbs in England.

While fuel inflation was the biggest driver of the monthly rise, second-hand cars rose by 5.6 per cent due to the semi-conductor shortage hampering new car production. Meanwhile, hotel prices rose 3.8 per cent, clothing inflation was up to 3.3 per cent and restaurant inflation hit 2.2 per cent

June’s inflation reading was above most economists’ forecasts of an increase of about 2.2 per cent, with Laith Khalaf, financial analyst at AJ Bell, saying the country is “still stuck in inflationary limbo”.

“We can’t tell if rising prices are a statistical blip, or a more concerning and permanent feature of the global economic recovery,” he said.

“Things aren’t running quite as hot on this side of the Atlantic, with UK inflation still only around half the rate in the US. Nonetheless the direction and speed of travel is worrying, when you consider that only a few months ago UK inflation sat at a lowly 0.4 per cent.”

The BoE has said inflation will peak above 3 per cent as Britain rebounds from the crisis before falling back, with governor Andrew Bailey urging policymakers not to overreact to a temporary growth in prices.

But the central bank's outgoing chief economist Andy Haldane, who took part in his last Monetary Policy Committee meeting in June, warned of inflation of 4 per cent and the risk that higher price growth sticks.

Paul Dales, chief UK economist at Capital Economics, said while the jump in inflation came as a surprise, some of the increases were due to “base effects” related to the unusually low level of prices last year.

“But the rises are bigger than the base arithmetic would suggest, which means that genuine price inflation is happening too,” he said.

However, Mr Dales expects CPI inflation to climb towards 4 per cent around the turn of the year, higher than the BoE’s outlook peak.

“This will probably be a temporary spike related to reopening effects and the previous gains in commodity and component costs. As such, we not expecting the Bank to respond by tightening policy in either 2021 or 2022, and probably not 2023 too,” Mr Dales said.

Susannah Streeter, senior investment and markets analyst at Hargreaves Lansdown, said the creeping UK headline inflation rate was likely add to the sense of unease pervading the financial markets about the effect higher prices would have on economies around the world.

“The FTSE 100 opened lower amid expectations central bank mass stimulus programmes may start to be eased more quickly, even though the recovery remains fragile,” she said.

“Also playing on minds are surging Covid infection rates due to the spread of the Delta variant and how these could slow the economic recovery. This raises the unpalatable possibility that 'stagflation' could take hold, where there is a drag on economic growth and knock on higher unemployment, amid the headache of rising prices."

Looking ahead, Mr Khalaf said it would be a while until CPI data revealed if long-term inflation was under control or not.

“In the meantime, the upcoming first half results from UK banks should give some indication of how concerned we should be about inflation. If loan growth is rising sharply, that will mean the amount of money in the economy is surging and will likely find its way into price rises," he said.

"If loan growth remains subdued, that suggests economic activity is relatively well-anchored and the central bank is right to look through today’s inflation numbers.”