This page was last updated on 7 November 2024
What will happen to inflation?
Inflation is the measure of how quickly prices have risen over the past year. It was over 11% in the autumn of 2022, but it fell to 1.7% in September this year.
The pressures that were pushing up prices have eased, and the increases in interest rates we made during 2021–2023 have also helped to slow down those price rises.
We can’t predict exactly what will happen to inflation, but we think it is likely to edge up to about 2.75% the second half of next year before falling again.
While prices overall are very likely to go up more slowly than they have done in recent years, lower inflation does not mean prices will fall. Most things will still cost more than they did before.
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The Consumer Price Index (CPI) is the measure of inflation often talked about in the news. It tracks how the prices of a shopping basket of about 700 things are changing. That shopping basket is designed to represent what people buy on average, and includes food, household bills and transport.
For example, if CPI inflation is 2% that means if the basket of the things we talked about was £100 a year ago, then today it would cost £102.
Between 1997 and 2021, CPI inflation was 2% on average – in line with our target. It began to rise in 2021 and reached a peak of 11% in 2022. It has fallen back to about 2% since then.
Inflation in the UK is measured by the Office for National Statistics.
Current inflation rate 2.3%
Target: 2%
What caused high inflation in the UK?
Three large economic shocks.
The first was the coronavirus pandemic. There was a large shortage of products and services, then as lockdowns eased there was suddenly huge demand for them. This pushed up prices.
We knew that wouldn’t last long. But then came the second shock: Russia’s invasion of Ukraine had a huge impact on energy and food prices.
For example, the war caused the supply of gas from Russia to drop significantly and gas prices rose as a result. That pushed up inflation because households consume energy directly (domestic gas and electricity supplies), and because higher energy costs make it more expensive for businesses to produce other goods and services.
The third shock was a shortage of workers available in the UK. Thousands dropped out of the workforce after the pandemic, which raised the cost of hiring. So, some businesses put up their prices to cover those costs.
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There are two main causes of inflation.
One is known as ‘cost-push’ inflation. This occurs when there is a fall in supply of a product or service, raising the cost of production and therefore the price.
The fall in Russian gas supply after its invasion of Ukraine is a good example of this.
The other is ‘demand-pull’ inflation, which is when there is an increase in the demand for something relative to its supply. For example, too much money in the economy can lead to higher demand for goods and services than there are available, which raises prices and inflation.
Recent high inflation in the UK was driven primarily by higher costs. Covid-induced supply shortages, the invasion of Ukraine and lack of workers post pandemic all led to ‘cost-push’ inflation.
As interest rates influence the amount of spending in the economy, higher ones can neither stop these things from happening nor immediately prevent their effects.
Regardless of the cause, interest rates can help reduce the impact on inflation. By reducing the amount of demand in the economy, they can make it less likely that higher costs lead to higher prices. It can help to reduce any ‘second round’ effects of these shocks, eg when higher prices lead to higher wages, which lead to even higher prices and so on.
What has the Bank of England been doing to help bring inflation down?
Between December 2021 and August 2023, we raised interest rates a lot. That has helped bring inflation down.
Inflationary pressures have now eased enough that we’ve been able to cut interest rates a bit. If those pressures continue to ease, we should be able to further reduce interest rates gradually. But it’s vital that we make sure inflation stays low, so we need to be careful not to cut rates too quickly or by too much.
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The Bank of England is not like other banks. It is the UK’s central bank and it became a fully public body when it was nationalised by the Government in 1946.
In 1997, Parliament decided the Bank should be given independence and deemed that a public body could make better, long-term decisions when not influenced by politics and elections.
The government sets us a target of keeping inflation at 2%, which is similar to that of many other countries. It is low enough to keep price rises small but high enough to avoid the problem of deflation – which is when overall prices fall, businesses make less money and begin to cut costs by reducing wages or staff numbers.
We meet the inflation target by changing our interest rate – often known as Bank Rate. This influences the rates that banks and building societies across the UK charge their customers for mortgages and other loans, as well as those paid on savings accounts. Since 1997, inflation has at times risen above our 2% target and at other times fallen below. But we have always brought it back.
How do higher interest rates bring inflation down?
Interest rates influence how much people spend, and that changes how shops and other businesses set their prices.
Higher interest rates mean higher payments on many mortgages and loans, meaning people must spend more on them and less on other things.
It also means savers get more return and potential borrowers find it is more expensive to take out a loan. These things make it less attractive for consumers and business to spend money.
When customers spend less, businesses are less willing or able to raise their prices. When prices don’t go up so quickly, inflation falls.
Are there any other ways to bring down inflation?
Increasing interest rates is the best way. We know it is an effective tool for managing inflation because it has been used successfully in many countries and circumstances.
