Brexit impact on UK inflation limited, for now - ING

James Smith, Economist at ING, suggests that despite being the first post-Brexit reading, it is too early to see the effects of sterling’s tumble in the latest UK inflation data, however, we look for inflation to break above the BoE’s 2% target early next year.

Key Quotes

“One of the big questions facing policy-makers in the UK at the moment is how quickly, and by how much, the plunge in sterling following the referendum will raise inflation. For now at least, the effects are fairly minimal; UK CPI remained little changed in July, with the headline rate pushing up slightly to 0.6% YoY.

The quickest pass-through is typically via petrol prices, but the increase was fairly modest in July with prices rising by 0.7% on the month. Indeed, petrol prices have fallen by around 2% in August as the fall in oil prices counteract the effect of sterling weakness. Similarly, the effect on food prices (another relatively rapid route for sterling pass-through) appears to have been limited thus far, falling by 0.3% MoM, as the price war between supermarkets continues to weigh on inflation.

However, we expect inflation to pick up fairly rapidly over coming months. The lack of an oil price spike or a VAT increase on the horizon means that we are unlikely to return to the dizzying heights of 5% as in 2008/11. However, the 18% fall in trade-weighted sterling since November last year means that we are likely to see CPI go above 3% in the latter stages of 2017 and could break above the BoE’s 2% target early next year.

Today’s producer price index reading gives a good early indication of what may be to come, with input prices rising by 3.3% MoM (4.3% YoY).  However, the lower outlook for growth means that the Bank of England will continue to “look through” this and is likely to deliver a further rate cut later this year. There is also likely to be growing pressure on fiscal policy to help provide a boost in the Autumn Statement later this year.”