The UK Treasury this morning offered a cautious pat on the back as official figures showed inflation stabilising at 2.0 per cent, with a notable slowdown in food price rises offering a lifeline to households grappling with the cost-of-living crisis. On the surface, the data suggests the Bank of England’s tightening cycle is finally biting, and the economy is proving more resilient than the doom-mongers predicted. But peel back the label on this ‘victory’, and the picture is far from pristine.
Headline CPI held steady, thanks in part to a 0.5 per cent monthly decline in food and non-alcoholic beverage prices the largest drop in over five years. Milk, cheese and eggs led the retreat, a welcome relief for squeezed shoppers. Yet core inflation, stripping out volatile food and energy, remains sticky at 3.5 per cent. This tells me the beast has not been slain. Services inflation, driven by rising wages and rental costs, continues to fester beneath the surface.
The Chancellor was quick to claim credit, insisting ‘the plan is working.’ But I would remind readers that this supposed stability is built on a mountain of public debt now exceeding £2.7 trillion. Gilt yields remain elevated, with the 10-year benchmark hovering near 4.2 per cent a clear signal that the market is not convinced by the Treasury’s narrative. Investors are demanding a premium to hold UK debt, and that premium reflects a deep-seated scepticism about the government’s fiscal discipline.
Let me be blunt. A 2 per cent inflation target is not some holy grail. It is a line in the sand that central banks have repeatedly struggled to hold. With energy prices set to rise again as winter approaches, and wage pressures persistent, I would not be surprised to see inflation re-accelerate before year-end. The market is already pricing in a 40 per cent chance of a rate hike in November. The Bank of England is caught between a rock and a hard place: tame inflation or avoid a recession? It cannot have both.
Meanwhile, capital flight remains a quiet but corrosive threat. Foreign investors have been net sellers of UK gilts for three consecutive months. The currency has taken a hit, with sterling sliding 5 per cent against the dollar since July. A weaker pound might boost exports, but it also imports inflation, undoing the very progress the Treasury is celebrating.
To the man on the street, this ‘resilience’ feels hollow. Real wages are still below pre-pandemic levels. Mortgage rates remain punishingly high, above 5 per cent for a typical two-year fix. The Bank of Mum and Dad is being drained dry. The Treasury can spin numbers all day, but the bottom line is this: if inflation truly were tamed, the Bank would be cutting rates not holding them at 5 per cent.
So let the ministers preen. The market is not buying it. The yield curve is still inverted, a classic harbinger of recession. And history teaches us that the market always wins in the end. When the gilt market revolts, no amount of political spin can save you. The UK economy is walking a tightrope, and the Treasury is pretending it is a red carpet.
