What UK inflation data tells us about the outlook for interest rates

UK CPI inflation climbed to 3.3% in March from 3.0% in February, matching consensus expectations (Investec 3.2%). The ‘core’ measure, which excludes energy, food, alcohol and tobacco, slipped to 3.1% from 3.2%, against market expectations of a steady rate of 3.2% (Investec 3.1%).

The largest upward contributor to headline inflation in March was transport, reflecting both an 8.7% surge in petrol prices on the month, but also a monthly jump in airfares of 10.0% versus a 0.3% drop in March 2025 – seemingly because long-haul fares this time related to the Tuesday just after the Easter weekend – which took the annual increase up to 14.5% from 3.8%. Housing & household services also added to the overall inflation rate, while clothing and footwear provided some offsetting downward pressure.

Energy costs in total climbed by 5.4% on the month. This is considerably more modest that than the 7.0% increase recorded in the eurozone and partly reflects that the bulk of movements in UK domestic gas and electricity prices occurs with a lag, due to the mechanics of the Energy Price Cap. The impact on the UK CPI of higher wholesale gas and electricity prices will be reflected beginning with July’s data, when the cap is reset (it was lowered by 7% at the start of this month, which will contain inflation during Q2).

The key question of course is the extent to which inflation continues to climb and whether the environment resembles the situation three to four years ago, when the headline rate of CPI reached 11.1% in October 2022, after which the ‘core’ measure peaked at 7.1% seven months later. Reassuringly the situations are very different, not least due to the level of wholesale natural gas prices. The UK near-term contract is currently trading at 104p, and while this represents a material increase from pre-war levels of 79p, we note that gas prices rocketed to 640p in the summer of 2022 (with winter contracts higher still).

Inflation has undoubtedly further to rise as utility prices increase and goods and services providers pass on higher costs to consumers. Indeed, today’s PPI data showed output price inflation strengthening to 2.6% in March from 1.8% in February, and input prices jumped by 4.4% on the month. Nonetheless with a moderation in global energy prices evident over recent weeks and last April’s 26% jump in water prices to provide a favourable base effect this year, we judge that the peak in CPI inflation will be contained to a peak a little below 4.0% after the summer. On our forecasts, the most likely profile for inflation this year looks similar to last year, when the headline rate reached 3.8% during the summer, not the surge in 2022.

The read through to monetary policy should be that the MPC can sit tight and avoid raising rates, and if we are correct about inflation subsequently returning to a profile consistent with the 2.0% inflation target, reductions in interest rates should be back on the cards at some stage in early 2027.

The absence of a major surprise in this report meant that there was little market reaction, especially with international attention focused on the extended ceasefire between the US and Iran and much domestic focus on Sir Keir Starmer’s troubled premiership.