Stock markets rebounded and the pound surged on Thursday after the US reported a lower than expected inflation rate for October, fuelling hopes that the cost of living crisis may have peaked.
Shares on the London exchange jumped after US inflation dropped from 8.2% in September to 7.7% in October, with the FTSE 100 rising 1% and the FTSE 250 gaining 3.8%.
In the US, Wall Street was on track for its best day since April 2020, with the S&P 500 index jumping 4% and the tech-focused Nasdaq surging 5.5%.
The lower than expected US inflation rate raised the prospects of a shallower recession next year across the industrialised world and increased the demand for government debt, sending bond prices higher.
The yield, or interest rate, on 10-year UK government bonds dropped by 20 basis points to 3.25%, the lowest since just before September’s mini-budget.
Analysts said the dip in inflation meant the US Federal Reserve could avoid increasing interest rates by as much as feared. The Bank of England’s peak interest rate was also likely to be lower over the next few months, potentially cutting short what had been expected to be a long recession in the UK.
Those improved economic measures potentially mean the chancellor, Jeremy Hunt, has a bit more wriggle room when finalising the tax rises and spending cuts expected to be announced in his autumn statement next week.
Bond yields also fell across Europe as investors agreed that the pressure on the European Central Bank to increase rates substantially had eased.
Paul Dales, the chief UK economist at the consultancy Capital Economics, said: “The US and the UK have a similar inflation problem. So the news today that US inflation pressures appear to be easing has boosted hopes that UK inflation pressures will ease too.”
He said these global developments – lower inflation and higher growth – would reduce the size of the UK’s fiscal hole, though most likely not in time for the autumn statement.
The Office for Budget Responsibility (OBR), which will produce independent forecasts for the chancellor to coincide with the autumn statement, is expected to base its predictions on an average interest rate for government bonds over recent months. “But if sustained, it would mean the public finances look healthier for the budget in the spring,” Dales said.
The US Bureau of Labor Statistics reported on Thursday that in October annual inflation as measured by the consumer prices index fell to 7.7% – the lowest since January, when it was 7.5%.
Along with the slight cooling in the overall inflation rate, the core inflation rate, which excludes the volatile energy and food sectors, halved month on month to 0.3%.
The rise in prices can largely be attributed to the continuing increase in US housing prices, which are up 6.9% over the last year. And petrol prices rose 4% in October, the first monthly increase since June. Petrol prices have risen 17.5% over the last year.
Multiple sectors recorded decreases in prices, including second-hand cars and lorries, clothing and medical care services. The price of food has been rising more slowly than in previous months, up 0.6% from September to October, and rising 10.9% over the last 12 months.
Energy prices have remained lower in the US than in other parts of the world, mainly due to its increasing self-sufficiency in gas and oil and a sharp rise in renewable energy.
Gas prices have fallen steeply on international markets, but European countries are unlikely to benefit until long-term contracts lasting up to a year unwind.
The Fed, led by Jerome Powell and on a mission to temper inflation, has been raising interest rates since March after rates sat still early in the pandemic. Last week the Fed increased rates for the sixth time, to between 3.75% and 4%, making borrowing money through credit card use and mortgages more costly.
Powell said the Fed would slow rate rises at some point but it was still “very premature to think about pausing”.
The Bank of England governor, Andrew Bailey, has signalled a slowing of increases in interest rates after raising the cost of borrowing to 3%, indicating that the UK is already nearing a peak.
The central bank said earlier this month that it expected the UK to have its longest recession on record should interest rates rise to 5%, as financial markets expected at the time. Lower than previously expected interest rates would allow more businesses to survive and fewer mortgage buyers to hand back the keys to their homes, limiting the impact on the property market and the wider economy.