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    UK inflation remains muted but bigger deficit increases pressure on Osborne

    Annual inflation in the United Kingdom was unchanged at 0.3% in February, falling short of estimates that it would edge up to 0.4%. Core inflation, which excludes volatile items such as energy, food, alcohol and tobacco prices, was also unchanged at 1.2%, in line with estimates.

    On a month-on-month basis, CPI rose by 0.2%, which was half the 0.4% rate expected by economists. Today’s data supports the growing view that the Bank of England’s first rate hike since the financial crisis is unlikely to arrive in 2016. A recent survey of economists polled by Reuters showed a less than 50% chance of a rate rise before the year end, while just over 50% are expecting a 0.25% increase in the first quarter of 2017. The markets are expecting the first move to come even later in early 2018.

    The largest upward effect on prices in February came from food as prices for vegetables and dairy products rose compared to a fall at the same time last year. The biggest downward effect came from transport. This was mainly due to a drop in the prices of road vehicles and bicycles between January and February 2016 compared to an increase 12 months earlier. In a sign that the effect of last year’s big drop in oil prices is starting to work itself out of the calculations, fuel prices had a slight upward effect on the annual CPI rate due to a smaller decline in February this year.

    The pound’s reaction to the CPI figures were mixed as market moves were more influenced by the explosions in Brussels earlier today. Sterling tumbled from around 1.4380 dollars to a low of 1.4253 dollars as the events triggered a global sell-off of risky assets. It briefly rebounded to 1.4310 dollars as the market panic eased but the weak inflation numbers weighed on the pound to drag it back below 1.43 dollars.

    In other UK data published today, the latest government borrowing figures dealt a blow to the Chancellor of the Exchequer, George Osborne, who looks set to miss his deficit target for 2015/16. Public sector net borrowing (excluding public sector banks) was £7.1 billion in February 2016, missing estimates of £5.8 billion. The shortfall means it will be hard for the Chancellor to meet his target of £72.2 billion with just one month to go, given today’s figures raise the borrowing for the fiscal year to date to £70.7 billion.

    Britain’s Conservative party suffered a setback this week after the sudden resignation of the Works and Pensions Secretary, Iain Duncan Smith, over disagreements to disability benefit cuts. The dispute over the planned cuts, which were outlined in the budget only last week, may force the Chancellor to find alternative sources for savings that would have amounted to £4.4 billion. The Chancellor is already under pressure as weaker-than-forecast tax revenues since the end of the recession have forced the government to repeatedly raise the level of spending cuts and extend the number of years of fiscal austerity.

    The latest twist in UK politics adds to the uncertainty surrounding the outcome of the referendum in June over whether Britain should remain or leave the European Union. Mr. Duncan Smith was one of the staunchest Eurosceptics within David Cameron’s cabinet and the damage to Osborne’s credibility from the dispute may influence voters’ intentions in the referendum given strong public opposition to benefit cuts. The Prime Minister David Cameron and George Osborne, a likely successor to Cameron, are both campaigning for Britain to stay in the EU.

    Meanwhile, the terror attacks in Brussels will be seen as increasing anti-EU sentiment in countries such as the UK where migration is high on the agenda of voters’ concerns. Free movement of people across the EU and limited powers under EU law for national governments to impose strict border controls is thought by some to be fuelling terrorist activities across EU states. Such developments are likely to further dent market sentiment for the pound, which on a trade-weighted basis, has depreciated by 9% since November 2015.

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