LONDON — U.K. headline inflation cooled sharply in July to an annual 6.8%, but the core consumer price index remained unchanged, posing a potential headache for the Bank of England.
The headline CPI reading was in line with a consensus forecast among economists polled by Reuters, and follows the cooler-than-expected 7.9% figure of June. On a monthly basis, the headline CPI decreased by 0.4% versus a consensus forecast of -0.5%.
However, core inflation — which excludes volatile energy, food, alcohol and tobacco prices — stayed 6.9%, unchanged from June and slightly above a consensus forecast of 6.8%.
"Falling gas and electricity prices provided the largest downward contributions to the monthly change in CPIH and CPI annual rates; food prices rose in July 2023 but by less than in July 2022, also leading to an easing in the annual inflation rates," the Office for National Statistics said.
"Hotels and passenger transport by air were the classes that provided the largest offsetting upward contributions to the change in the rate."
Gareth Davies, exchequer secretary at the U.K. Treasury, told CNBC on Wednesday that the data would be met with relief by households and families across the country, but that the government and the central bank were "not out of the woods" in their efforts to rein in inflation.
"The plan that we are executing on is clearly working, but we need to keep with that plan, keep making responsible decisions when it comes to public finances, and we need to make sure that fiscal policy is aligned with monetary policy at the Bank of England," Davies told CNBC's "Squawk Box Europe."
The Bank of England's monetary policy meeting earlier this month produced a split vote to hike the main interest rate by a quarter percentage point to a 15-year high of 5.25% — in the 14th consecutive increase to the key rate.
The Monetary Policy Committee gave little indication that the era of high interest rates was likely to end soon, vowing to "ensure that Bank Rate is sufficiently restrictive for sufficiently long to return inflation to the 2% target."
Along with inflation, central bankers have been keeping a close eye on the U.K.'s tight labor market, which data on Tuesday indicated might be beginning to loosen.
The unemployment rate rose to 4.2% in June, climbing above expectations to its highest level since October 2021. Analysts noted that the participation rate broadly held steady, while the employment rate declined, signaling a weakening in labor demand.
Pay growth continues to pose headaches for policymakers as wages excluding bonuses grew by 7.8% year-on-year in the three months to June, the fastest growth rate since records began in 2001, according to the Office for National Statistics. However, this still remained below inflation, which sat at 7.9% in June.
U.K. Finance Minister Jeremy Hunt said the drop in headline inflation showed the government's action to tackle inflation is "working," but "we're not at the finish line."
"We must stick to our plan to halve inflation this year and get it back to the 2 per cent target as soon as possible," Hunt added.
Cost-of-living crisis 'far from over'
With headline inflation falling to 6.8% and wages growing at record pace, the U.K.'s prolonged cost-of-living crisis may be showing signs of abating, said David Henry, investment manager at Quilter Cheviot.
"Households are still under immense pressures however, and inflation isn't going to fall dramatically, but it will be pleasing to millions to see their take home pay now seeming to keep up with inflation," he added.
Henry noted that the headline numbers only tell "a fraction of the story," with consumers continuing to face soaring food prices and core inflation refusing to budge meaningfully.
"With the surprise in earnings growth added in and the economy holding up in the face of adversity, the Bank of England will probably determine that more interest rate rises are required to get the job done," he said.
Suren Thiru, economics director at the Institute of Chartered Accountants in England and Wales, said the figures may provide reassurance that the inflation tide has turned, but that the July drop owes more to lower energy bills following the regulator Ofgem's reduction in its price cap than to a broader easing of price pressures.
"It's encouraging that pay is outpacing price growth, but any financial boost is likely to be swallowed up by higher taxes, borrowing costs and rent, so for most people this won't feel like a turning point in the cost-of-living crisis," Thiru said.
"While core and services inflation are proving harder to shift, they should fall back over the rest of the year as rising unemployment and tighter monetary policy help choke off demand in the economy."
He suggested that another rate rise from the Bank of England in September now looks "inescapable," though the Monetary Policy Committee's votes may be more evenly split than at its last meeting, as worries grow about the impact of higher rates on the British economy.