UK Reaction: Weight update adds to easing in headline and core

CPI inflation eased to 10.1% year-on-year (y/y) in January down from 10.5% in December, as falls in air fares and motor fuels augmented by updated weights drove the decline. This reading came in below consensus estimates of 10.3%, but in line with the Bank of England (BoE)'s projections in its February Monetary Policy Report. Core CPI inflation eased to 5.8%, below consensus estimates of a slight easing in core CPI to 6.2% from 6.3% in December. Retail Price Index inflation held at 13.4% whilst Retail Price Index excluding mortgage interest payments eased to 12.6%.

The decline in headline inflation was driven by easing prices of air fares and motor fuels augmented by updated weights which saw the contribution of transport services rise by around 65%. Declines in transport (including and air fares and motor fuels) contributed 0.5 percentage points (ppt) to the 0.4ppt decline in inflation on the month. Air fares eased considerably in January following a sharp spike in air fares over the festive period. The impact of this decline on CPI was greater than it would have been last year as the weights attached to plane tickets more than tripled in CPI basket (to 0.7% of CPI basket from 0.2% prior). Fuel prices also contributed to the decline in inflation, average petrol prices falling by 5.9 pence per litre (ppl) between December and January 2023, compared with a smaller fall on 0.7ppl a year earlier. Similar trends were also seen in diesel prices. Restaurants and hotels also contributed to the decline (-0.1ppt) driven by a slower rise in the price of restaurant and café prices. These declines were partially offset by increases in alcohol and tobacco (+0.1ppt). Services CPI also declined sharply in January to 6.0% from 6.8% prior – a development which will be welcomed by the MPC.

The latest figures also came alongside an interim update to weights. In line with our expectations, this update saw the weights on energy goods and services increased reflecting increased energy expenditure by households and a continued rotation towards services expenditure post pandemic. The weight of goods in the basket declined to 53.7% from 56.3% and the weight of services increased to 46.3% from 43.7%. The weights will be finalised in the February CPI release for the rest of 2023, but are unlikely to change significantly.

The Monetary Policy Committee (MPC) will certainly welcome the easing in inflation that has come through particularly with respect to core and services CPI which closer reflect domestic inflationary pressures but will remain wary that some of this easing has been augmented by weight updates. The BoE will want to continue to see signs of price pressures receding before they are ready to begin pausing, but this print is a key step in the right direction. Prior to the March meeting, we will also have additional labour market and inflation prints which will be crucial. We continue to expect the MPC to hike Bank Rate by 25bp at their next meeting, where we expect them to pause with rate at 4.25%. We think that the delayed effects of tightening on an already weak economy are likely to see the MPC cutting by the end of the year, pencilling in one 25bp cut in Q4 2023.