UK Inflation is Slowing - What Does This Mean for the Economy?

There was positive news for the UK economy in July, with the Office for National Statistics announcing a slowing of inflation compared to the month of June. Inflation stood at 6.8% in July, while in June the rate was higher at 7.9%. From the start of 2023, this represents a significant drop from 10.1% and is the lowest rate since February 2022.

While this is a step in the right direction, the UK is not out of the woods yet. The current cost-of-living crisis and high inflation continue to play havoc with mortgages and food bills and the situation is unlikely to be reversed overnight. In addition, while the rate of increase of inflation is slowing, it is still notably higher than the Bank of England's target of 2%.

What is Contributing to the Slowdown in the Rate of Inflation?

Inflation and the wider economy is influenced by a variety of factors and can easily fluctuate. However, there are some key developments which are starting to turn the tide in the government's battle with inflation.

Energy Prices

Energy prices have been a crucial factor affecting UK inflation. In the wake of Russia's invasion of Ukraine, global energy prices rose quickly and steeply in response to fears over supply shortages. With Russia commanding the lion's share of the energy market in Europe, it is unsurprising that this economic uncertainty led to price fluctuations. In the aftermath of the invasion, the prices of oil, coal and gas rose by 40%, 130% and 180% respectively.

However, as the pressure on global markets has eased slightly, the UK can expect to see a drop in energy prices, resulting in a positive effect on inflation. On 25th August, the regulatory body Ofgem announced a slash in the energy price cap, decreasing from 7.5p per kilowatt hour to 6.89p. This translates to a drop in the annual price of gas and electricity from £2,074 to £1,923 from October for a typical household.

Easing in Food Price Inflation

High food prices have massively impacted the average UK household. Labour shortages, arising from the Covid-19 pandemic, led to reduced numbers of workers available to grow and distribute produce around the globe. The rise in energy prices further changed the landscape, with transport and distribution costs contributing to steep increases in supermarkets.

The UN's Food and Agriculture Organization announced on 5th August that while food prices have been slowly coming down since February, July saw the most significant drop yet at a loss of 8.6% compared to the previous month. The FAO recorded notable drops in the prices of cereals, sugar, meat and dairy products.

Why Should These Developments be Treated with Cautious Optimism?

While the slowdown in inflation is good news, it still remains far higher than the Bank of England's target. Raising the interest rate remains the most effective way to reduce inflation; higher prices lead to less spending across the board and prices rises slow down. Financial experts believe that despite this recent slowdown, the Bank of England will still be forced to raise interest rates in September. Interest rate rises can also take up to a year or two to fully take hold in the economy.

High interest rates will continue to impact mortgage holders; those with fixed term deals may not feel the full impact of interest rate rises until next year when their deals have come to an end. Equally, although the drop in energy prices will be welcome news for homeowners, it should also be noted that the UK government has withdrawn the bulk of its financial support for struggling UK citizens.

How Will Mortgage Lenders Respond to These Recent Economic Developments?

While the future remains uncertain and we will have to wait to see what course of action the Bank of England takes in September, some mortgage lenders have cut some of their fixed rate deals. The slowing of inflation has given financial institutions a little more confidence to lend money to their borrowers at lower prices.

It is hoped that these small signs of recovery will herald the start of a more stable economy in the months to come, but UK citizens are warned to remain patient.