Inflation rebounded in July. This was driven almost entirely by higher household utility bills after Ofgem raised the energy price cap by 13% in July. This was partly offset by lower fuel prices and weaker airfares inflation. Further ahead, we expect inflation to trend up through the second half of the year, peaking around 3.4%. That means we continue to expect the Monetary Policy Committee (MPC) to balance slowing growth with rising inflation by staying on hold throughout 2026 before resuming rate cuts next year.

CPI rebounds on utility prices

Inflation rose from 2.6% to 2.9% in July, as Ofgem’s 13% hike to the utility price cap pushed household utility bills inflation from -6.6% to 5.0%, more than accounting for the jump in the headline rate. This was partially offset by slower motor fuels inflation knocked 15bps from headline inflation as lower oil prices fed through to consumers. But oil prices started rebounding in July, pushing pump prices up in August, so we expect motor fuels inflation to rebound. Similarly, food inflation slowed from 1.7% to 1.3% but should rebound later this year as higher energy and fertiliser prices feed through.

Elsewhere, airfares inflation, dropped from 3.1% to -11.6%, cutting 8bps from the headline rate. This was largely driven by a base effect from strong airfares last year, but European flights also saw an unusual drop in prices, with anecdotal evidence suggesting airlines were discounting to combat weak demand. In any case, airfares will rebound later this year as July’s base effect unwinds and higher jet fuel prices feed through to fares.

There was also some evidence of the government’s temporary VAT cut easing price pressures, as recreational and cultural services inflation slowed from 4.0% to 3.8%, although this had almost no impact on headline inflation.

All told, July’s rebound marks the start of another rise towards 3.4% as higher energy, food and memory-chip prices work through supply chains in the second half of the year.

Little surprise for the MPC points to rates on hold

For the MPC, inflation coming in as forecast, alongside yesterday’s slightly dovish labour market data, points to rates being on hold this year. The doves may take comfort from services inflation easing from 3.6% to 3.4%, but this was driven almost entirely by erratic airfares and should unwind in August, pushing services inflation close to 4% later this year

Indeed, renewed tensions in Iran have pushed oil and gas prices back up, with gas near conflict highs, which means inflation will still peak close to 3.5% despite recent progress on domestically generated inflation.

In short, inflation will almost certainly rise higher as higher energy, food and memory-chip prices push up household bills and work through supply chains. The big risk is that a prolonged closure of the Strait of Hormuz pushes energy prices higher into winter, while El Niño damages crop yields, leaving inflation peaking higher and staying elevated for longer.

Admittedly, the weaker labour market should be enough to keep second-round effects contained as employees struggle to bid up nominal wages in response to higher inflation, reassuring the MPC that it can weather another period of above-target inflation without needing to hike rates.

Ultimately, July’s rebound is just the start of a move towards 3.4% as energy prices add indirectly to inflation and food inflation rebounds, keeping the MPC on hold. Inflation should then ease to around 2.5% in the spring, allowing the MPC to resume rate cuts in 2027.

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