Gasoline Prices Become Key Driver as UK June Inflation Unexpectedly Falls to Lowest Level in a Year; Bank of England Gets More Support to Hold Rates Next Week

According to Zhihui Finance APP, driven by falling gasoline prices, the UK inflation rate has unexpectedly dropped to its lowest level in more than a year. Data released by the UK Office for National Statistics on Wednesday showed that the UK's Consumer Price Index (CPI) rose by 2.6% year-on-year in June, the lowest level since March last year, down from a 2.8% year-on-year increase in May and below economists' average forecast of 2.7%.

Easing tensions between the US and Iran in June led to a decline in international oil prices, which pushed down gasoline and diesel prices. According to weekly data released by the UK government, the current retail price of gasoline in the UK has dropped to about 152 pence per liter, down about 4% from the late May high. Food and non-alcoholic beverage prices have also exerted downward pressure on inflation. Meanwhile, the Bank of England's key measure reflecting domestic inflationary pressure, the services inflation rate, slowed from 3.7% previously to 3.6% in June, although it remains slightly higher than market expectations.

The cost of living crisis is one of the top priorities for the new UK Labour government. The new Prime Minister, Burnham, has pledged to provide UK families with more "breathing space." As one of his first policies after taking office, he announced the removal of VAT from residential electricity bills starting in October. The UK government expects this measure to lower the overall inflation rate by about 0.1 percentage points.

However, the relief consumers experience from easing inflation may be only temporary. Economists anticipate that with the energy price cap for UK households rising by 13% in July, the inflation rate could bounce back in July. In addition, with renewed tensions between the US and Iran, international oil prices have again exceeded $90 per barrel, and natural gas prices have surged in recent weeks, which may offset part of the effect of the Burnham government's cost-of-living support measures.

Currently, UK inflation is still significantly lower than the levels worried by the Bank of England at the onset of the Middle East conflict. Furthermore, labour market data released on Tuesday also provides grounds for the Bank of England to stand pat at next week's monetary policy meeting.

On Tuesday, the UK Office for National Statistics stated that payroll employees fell by 4,000 in June, after rising by 3,000 in May, better than economists’ previous expectation of a decrease of 8,000. The number of job vacancies in the UK was 712,000 in the three months to June, basically unchanged from the previous statistical period. The unemployment rate for the three months to May remained at 4.9%, though the ONS cautioned that the quality of this estimate has "deteriorated" due to a temporary issue; the youth unemployment rate for those aged 16–24 rose slightly to 16.4%, the highest since 2014.

Private sector wage growth has slowed to the lowest level since 2020. According to the ONS, in the three months to May, wage growth excluding bonuses remained at 3.4% year-on-year. Private sector wages, which are a key focus for the Bank of England, grew by 2.9% in the three months to May, the lowest pace since October 2020.

These figures suggest that the previous downward trend in the British labour market may be close to bottoming out. Andrew Hunter, Senior Economist at Moody's Analytics, said: "The UK labour market appears to be stabilizing after a prolonged period of weakness. This suggests the market has weathered the recent energy shocks, and the long-term drag on employment from minimum wage hikes and increases in National Insurance Contributions is finally starting to wane."

Signs of stabilization in the UK labour market are expected to support the Bank of England’s decision to hold rates steady next week. Labour market conditions are crucial for monetary policymakers. Bank of England officials hope that weak labour demand may limit the second-round inflation effects triggered by surging energy prices.

The Bank of England will announce its interest rate decision on July 30. The market largely expects the central bank to keep rates unchanged at next week's meeting, aiming to balance the risks of rising energy prices, labour market weakness, and sluggish economic growth. The Bank of England will also publish its latest comprehensive economic forecasts. However, with US-Iran tensions flaring up again, investors still expect the central bank to take at least one rate hike action before the end of the year.