Expect higher interest rates after the UK inflation shock

Interest rates are expected to rise again after UK inflation remained much higher than expected for the fourth consecutive month.

Inflation, which measures the rate at which prices rise, was stuck at 8.7% in May.

This surprising number came about because of the high prices of flights and used cars, but supermarket food prices also continued to rise rapidly.

In a heated exchange at the PMQs, Rishi Sunak and Labor leader Keir Starmer clashed over who was to blame.

Sir Keir accused the Tories of blaming the “mortgage debacle”. But the prime minister, Mr Sunak, hit back, referring to the “global macroeconomic situation”, saying he had spent “tens of billions” supporting people with the cost of living.

Interest rates are widely expected to rise 0.25% to 4.75% on Thursday, but some suggest they could now rise to 5%. Rising rates mean that homeowners face significant increases in mortgage payments.

The influential Institute for Fiscal Studies (IFS) has warned that higher rates will lead to a drop of more than 20% in the disposable income of 1.4 million mortgage holders.

Karen Ward, a member of Chancellor Jeremy Hunt’s economic advisory board, said the bank had been “extremely reluctant” to raise interest rates so far, and called on it to “create a recession” to curb rate hikes.

“It’s only when companies are nervous about the future that they’ll think ‘Well, I probably won’t take this price hike’, or workers, when they’re a little less confident about their jobs, think ‘Oh, I’m not going to pay my boss for that higher salary’.” .

But Andrew Seeley, chief executive of Bidfood UK, a wholesale food supplier, said increasing rates was “not the right thing to do”.

“It’s suffocating the economy. They need to look for other ways to support business so they can weather the storm,” he said.

Chancellor Jeremy Hunt appeared to be in favor of further interest rate increases saying he would “not waver in our intention to support the Bank of England as it seeks to drive inflation out of our economy”.

The bank is mandated to keep inflation at 2% but the current inflation rate is four times higher than that. It has been steadily raising interest rates since the end of 2021. This makes borrowing money more expensive and theoretically encourages people to borrow less and spend less, which means the price hike should be mitigated.

Homeowners – a third of adults in the UK – face huge increases in repayments when term deals expire. First-time buyers are also at risk of being left out of the market as lending conditions get tougher.

The average two-year mortgage, Wednesday, was 6.15%, and five-year deals were 5.79%.

In May, increases in tour prices, used car prices, live music events, and video games drove prices up.

It’s possible that Nintendo’s new Zelda version helped boost the sale of PC games, one analyst said.

So-called “core” inflation, which strips out volatile factors such as direct energy and food prices, along with alcohol and tobacco prices, continued to rise last month at its fastest rate in 31 years.

Economists said this made the UK stand out from other countries like the US and Germany where inflation is low,

Grant Fitzner, chief economist at the Office for National Statistics (ONS), which produces figures on the British economy, said the increase was driven by higher prices for services in cafes, restaurants and hotels.

He added, “It may have been driven, at least in part, by the increase in wages we’ve seen.”

Yael Selvin, chief economist at KPMG UK, said: “Rising core inflation suggests that companies may be passing on the increased costs of higher wage bills to consumers.”

UK wages have risen at their fastest rate in 20 years, barring the pandemic, but still lag behind the rate of inflation.

Failing to keep up with rising prices has left many families under financial stress in recent months.

Food inflation, the rate at which grocery prices rose compared to a year earlier, was 18.3% in May, down slightly from 19% in April.

Sergio Ronga, owner of Nanninella Pizzeria in Brighton, said he had to raise his prices as a result of rising costs.

He said his ingredient costs have soared as the price of tomatoes has nearly doubled, the price of flour has jumped 60% and cheese has jumped 50%.

Sarah Coles, head of personal finance at Hargreaves Lansdowne, said that while food inflation has eased, it remains at a level that is “perpetually tormenting”.

“Costs have gone up so far, so quickly that we will never see prices fall back to the level we are used to. In many cases, we will not see them actually go down at all: the cost of prices will increase at a slower rate.”

Separately, figures released on Wednesday also revealed that the national debt was greater than the UK’s economic output for the first time since 1961.