The Bank of England faces a significant conundrum regarding the Consumer Prices Index (CPI), as it prepares to cut interest rates this Thursday despite inflation remaining stubbornly high. A quarter-point reduction to 4% is widely expected, marking the fifth cut since last August, driven by concerns over rising unemployment and the economic impact of Donald Trump’s new tariffs. The CPI currently stands at 3.6% for the year to June, well above the MPC’s 2% target.
While the elevated inflation figures might typically argue against a rate cut, the prevailing economic headwinds appear to be forcing the Bank’s hand. Chancellor Rachel Reeves is expected to welcome the lower mortgage rates and reduced borrowing costs for businesses that such a cut would bring, providing some economic relief. However, the government faces a challenging environment, aiming to boost growth while also controlling spending. The UK economy contracted in May and April, a downturn linked to Trump’s trade policies and recent business tax increases.
The labor market is showing clear signs of weakness, with job vacancies falling below pre-pandemic levels and the unemployment rate rising to 4.7% in the three months to May, its highest since June 2021. These indicators of a slowing economy are a key factor in the Bank’s decision-making, despite the inflationary pressures.
President Trump’s announcement of new tariffs of up to 50% on various trading partners, despite a separate UK-US trade deal, is exacerbating global trade tensions and impacting the UK’s growth prospects. The International Monetary Fund’s modest forecast for the UK economy, predicting only slight expansion in the coming quarters, further highlights the precarious situation. The Bank of England’s fresh forecasts, to be unveiled on Thursday, are expected to be even more cautious, potentially indicating an imminent period of stagflation, where inflation persists despite subdued growth.