Key Takeaways
- Bank of England will have to write to Chancellor Rachel Reeves if CPI is double the official target.
- UK inflation is expected to drop into 2026 and beyond.
- CPI components like food and energy are expected to be higher than in September 2024.
UK inflation is expected to have risen to 4% when September data is released by the Office for National Statistics on Oct. 22.
That would represent a rise in the consumer prices index from the 3.8% rate seen in August and would be double the Bank of England’s 2% target. Core inflation is also expected to have risen, from 3.6% to 3.7% in September.
According to the latest FactSet consensus, UK price rises are thought to have accelerated once more last month, thanks in part to increased energy consumption as the autumn months bed in and households consume more energy. The last time UK CPI was at 4% was in December 2023, when inflation was on a downward trajectory from its level above 10%. It eventually hit 2% in May 2024, before rising once more through 2025.
Bank of England to React to UK Inflation Data
The data will be another concern for Chancellor Rachel Reeves as she prepares to deliver her delayed Autumn Budget on Nov. 26. Given the uncertainty surrounding tax rises at that fiscal event and their potential effects on the economy and UK gilt and housing markets, the Bank of England is already expected to hold rates when it next issues a decision on Nov. 6.
Annual inflation of 4% for the 12 months to September will only strengthen the case for caution on Threadneedle Street. The Bank‘s dilemma is stark, however. When its Monetary Policy Committee meets in early November, it will decide which phenomena should influence its approach the most: stagnant growth or persistent inflation. At the moment, markets anticipate a rate hold and for inflation to persist into 2026, before falling back.
“That inflation in the UK is expected to drift up to 4%, almost twice the Bank of England’s targeted rate, will definitely trouble some investors,” says Morningstar chief European market strategist Michael Field.
“Economists had been relatively nonchalant about the rise in inflation up until now, claiming the effects are temporary and that we will likely see a fall very soon. Expectations are starting to creep outward though, and it’s likely that it will be 2026 before we see a meaningful decline in the number.”
Why Is UK Inflation Rising?
The economic backdrop for ONS’ latest inflation bulletin is largely negative. Consumer and business sentiment is poor and the UK’s services-based economy appears to be faltering. Growth rebounded in August from a small contraction in July, but the outlook remains uncertain.
In October, the International Monetary Fund said it expected UK inflation to be the highest in the so-called G7—a geopolitical bloc consisting of Canada, France, Germany, Italy, Japan, the UK and the US—averaging 3.5% for the 2025 calendar year. It also said it expects UK economic output to be the best in the G7. For its part, the Bank of England has long expected UK inflation to spike after initially hitting the 2% target in May last year.
The Bank was quick to flag its concern that increases to National Insurance employer contributions would have a negative impact on the economy following last year’s Autumn Budget. One of the most visible trends has been employers passing on the cost of this higher taxation on to consumers in the form of prices.
Other factors have caused inflation to rise this year specifically. Every time UK CPI is logged as being above the Bank’s 2% target, the Bank’s governor, Andrew Bailey, is required by parliament to write to the chancellor to give an explanation and outline what the Bank is doing to meet its target.
In his most recent letter to Reeves on Sept. 18, Bailey said the UK economy was being buffeted by utility and commodity prices, as well as tax increases themselves.
“The recent increase in CPI inflation has owed largely to food prices and administered prices, including water bills and vehicle excise duty,” he said.
“A reduction in total labor cost growth also appears to have been delayed by the increase in employer National Insurance Contributions (NICs) and pay growth in sectors with a large share of employees at or close to the national living wage.
“Intelligence from the Bank’s Agency network suggests that higher global commodity prices have driven [food price inflation] over the past year, with higher wholesale prices for beef, cocoa beans and coffee in particular, and with some contribution also from domestic costs.”
What’s the Outlook for UK Stocks?
UK stocks have been trading at record highs of late, a trend fueled by the success of pharmaceuticals, defense, and financials stocks. That’s amid the broader global disruption posed by the US tariffs programme, which has made the UK’s defensive stocks look more attractive.
Still, UK stock markets are likely to react negatively if inflation data comes in above 4%, as this would make interest rate cuts less likely.
Bond investors will also be watching the data closely. Yields on UK gilts have been softening of late but are still elevated amid political uncertainty over the viability of Rachel Reeves’ tenure as chancellor and the possibility a successor chancellor may be less committed to fiscal rectitude.
Today, the UK’s 30-year gilt yields around 5.30%, roughly 13 basis points lower over the month. Nevertheless, if inflation comes in at more than 4%, short-term government bond yields could rise.
“With downgrades to the OBR’s growth forecasts almost certainty on the way next month, and higher gilt yields limiting the ability to increase borrowing, Chancellor Reeves faces an uphill battle to plug the fiscal gap and reassure markets that she has a credible plan for growth,” said Matthew Ryan, head of market strategy at Ebury.
“We expect to see an amalgam of tax increases (virtually confirmed by the government this week) and a modest increase in borrowing, but investors will be clamoring for commitments to at least mild spending cuts. We see this as a must to avert panic over the hit to public sector growth in 2026.”
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