While inflation is forecast to accelerate in 2025, at least a portion of that is expected to be linked to energy prices, and, therefore, be temporary. Indeed, recent currency appreciation against the dollar and sharp falls in commodity prices have taken a little of the pressure off headline inflation.
“That said, domestic inflation pressures persist; average wage growth is still running at close to 6% year on year; inflation in the labour-intensive services sector is at 4.7% year on year; and core inflation, at 3.4%, remains well above the central bank's 2% target.
“However, while we expect the Bank of England may be slightly more cautious than the markets expect (between two and three 0.25% pa rate cuts in 2025 feels more likely than forecasts of almost four), central banks must set policy based on the balance of risks to growth and, therefore, inflation. Tariffs have skewed these risks more sharply to the downside.
“US tariffs are both a supply and demand shock to the US. For other economies, US tariffs mainly represent an external demand shock, with a more ambiguous impact on inflation. Falls in commodity prices and currency appreciation against the dollar will lower headline inflation, while some imported goods could become cheaper as exports previously destined for the US enter non-US markets. On the other hand, the scale of US tariffs could damage global supply chains, raising inflation. For this reason, we expect central banks to prioritise the risks to growth over the near-term risks to inflation.”
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