Sterling: BoE Outlook Stable as CPI and Employment Data Land—MUFG

MUFG analyst Derek Halpenny said UK July CPI data broadly met expectations, with headline inflation rising to 2.9%, driven mainly by higher utility bills, while services inflation moderated. Combined with labor data showing modest wage growth and weak employment demand, he believes the Bank of England's Monetary Policy Committee is likely to remain divided internally, with future moves depending on energy price trends driven by Middle East tensions.

**Inflation Structure: Headline Up, Core Slowing**

Headline inflation rose to 2.9% in July, driven primarily by higher utility bills, a factor closely tied to energy prices. Meanwhile, services inflation showed signs of easing, a relatively positive signal for the BoE. Market reports indicate economists had previously expected July CPI to fall from 2.6% to 2.5%, with the actual 2.9% print clearly above that forecast, but Halpenny views the data as broadly "in line with expectations," suggesting he focuses more on marginal changes in services inflation rather than short-term swings in the headline figure.

**Labor Market: Modest Wages, Weak Demand**

UK employment data also shows a divergent picture. According to reports, the ILO unemployment rate held at 4.9% in the three months to June, while average earnings excluding bonuses rose 3.5% year-on-year. Halpenny sees wage growth as modest and employment demand as weak, which undermines the endogenous momentum for sustained inflation and means the BoE need not rush to tighten policy further. Sterling is currently trading around 1.35559 against the dollar, having earlier pushed toward the 1.36 level, extending its recent firm trend supported by yield advantages.

**Policy Outlook: Internal Divergence Persists, Energy Prices Key Variable**

Halpenny judges that the BoE will continue to see internal divergence, with future actions depending on energy prices driven by Middle East tensions. This assessment aligns with the BoE's earlier projection that inflation would rise to around 3.2% in Q4—if energy prices climb further due to geopolitical conditions, headline inflation could re-accelerate, strengthening the hawkish stance; conversely, slowing services inflation and weak employment demand provide grounds for doves. According to MUFG's earlier analysis, the BoE's inflation projections released at its February meeting were consistent with further easing, but current energy price uncertainty makes the policy path more complex.