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    UK inflation at highest in a year but core rate slows

    British consumer prices showed signs of accelerating in January as headline inflation rose to a one-year high.  Annual CPI edged higher to 0.3% in January, in line with estimates and up from December’s 0.2% rate. The month-on-month figure was weaker than expected though, recording a drop of 0.8% over the month versus estimates of a 0.7% drop.

    More significantly, the core rate of inflation, which excludes energy, food, alcohol and tobacco prices, eased by more than expected, rising at an annual rate of 1.2%. This is down on December’s 1.4% rate and compares with forecasts of a 1.3% rise. On a month-on-month basis, core CPI fell by 1% versus estimates of a 0.8% drop.

    The main upward contributors to January’s rise were motor fuels, food and beverages, and clothing and footwear. The cost of motor fuels were down by 2.6% over the year, compared to a larger 6.8% decline at the same period in 2015. This was mainly due to smaller falls in the price of oil this January than a year ago. Clothing and footwear, and food and non-alcoholic beverages also declined at a smaller rate, while alcoholic beverages rose at a faster pace.

    The biggest downward effect came from air fares, which tumbled by 35.8% in the 12 months to January, compared to a 17.1% drop a year ago.

    Also out today were producer prices, which showed input prices falling at a smaller-than-expected rate of 7.6% year-on-year. Output prices, or factory gate inflation, also eased from the previous month from -1.4% to -1.0% year-on-year, but the figure was below estimates of -0.9%.

    January’s modest rise in inflation is unlikely to worry the Bank of England as the underlying trend remains weak. Slowing global growth, falling fuel and energy prices and competition among UK’s retailers are likely to keep the pressure on consumer prices for some time.

    Weak wage growth is also holding back inflation and the muted outlook has even forced the BoE’s most hawkish member to drop his call for an interest rate hike. MPC member Ian McCafferty, who had been voting for a 25bps increase in the Bank’s base rate since August 2015, joined the other MPC members in February’s meeting to vote for no change.

    Financial markets have recently pushed back their expectations of a rate hike in the UK to as far back as August 2019. Meanwhile, the likelihood of the next move in interest rates to be down has increased. However, economists are still expecting that rates will go up by 25bps in the fourth quarter of 2016, mainly on the basis that there is limited spare capacity in the UK economy and this is likely to push up prices.

    The pound came under pressure just after the data, although it had spiked up just before the release. Sterling had rallied to 1.4515 dollars from an intra-day low of 1.4404. But it dropped back to 1.4459 dollars on the broadly softer-than-expected inflation numbers. The euro slipped to 0.7695 pounds just before the data but bounced back to 0.7725 pounds by mid-European session.

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