Policy makers will look through small headline rise to welcome sharp fall in services inflation

The rise in CPI inflation last month was less than both the Bank of England and markets were expecting. Both are instead more likely to focus on the sharp fall in services inflation, which shows that domestic price pressures are easing, the Resolution Foundation said today (Wednesday).

Headline CPI rose for the first time since December 2023 from 2 to 2.2 per cent in July, driven by big changes in energy costs falling out of the data. However, this rise was less than the Bank’s forecast of 2.4 per cent.

The biggest, and most welcome, surprise in today’s data was the sharp fall in services inflation – which monetary policy makers use as a proxy for domestically generated price pressures, and is therefore critical to their judgement on interest rates. Services inflation fell from 5.7 to 5.2 per cent in July, well below the Bank’s forecast of 5.6 per cent.

The Foundation notes that services inflation affects richer households most. While food and energy bills – which drove the recent of cost of living crisis – are a bigger share of poorer households’ family budgets, services such as eating out and leisure – the current focus of price pressures – are a bigger share of richer households budgets. The top tenth of households spend 38 per cent of their family budgets on services (excluding rent), compared to just 32 per cent among the poorest tenth.

Lalitha Try, Economist at the Resolution Foundation, said:

“The first rise in inflation in seven months may sound like bad news, but in fact the small size of the increase – and the sharp fall in services inflation that lies behind it – is good news for both consumers and policy makers.

“The price of domestic services such as restaurants and leisure activities have replaced food and energy bills as the focus of price pressures – for now at least. Keeping a lid on these price rises will hold the key to keeping overall inflation close to target, and getting interest rates down.”