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We expect CPI inflation to hold at 3.7% in May as falling fuel prices are offset by rebounding airfares. Further ahead, inflation will ease slightly in June before jumping in August as fuel excise duty cuts expire and energy bills start to be hiked. Ultimately, we see CPI inflation peaking around 4% this year, as higher mortgage interest inflation compounds rising energy prices in the second half of the year.
Inflation steady in May
We expect inflation to hold firm at 3.7% in May as cuts to fuel excise duty continue to filter through to pump prices, but will be offset by a rebound in services inflation as weak airfares in April unwind, due to the early Easter.
Admittedly, the risks are skewed towards lower inflation. Our forecast is close to rounding down to 3.6% and the flash HICP release showed that measure of inflation easing from 3.6% to 3.5%. However, the official CPI index includes mortgage interest inflation which we think will jump from 6.8% to 7.5%, as base effects from last year’s rate cuts push up the annual measure.
Small drop in June then another big jump in August
Further ahead, inflation will ease a little in June if current oil prices hold, before jumping to around 4.0% for a few reasons. First, and most importantly, the government’s emergency cuts to fuel excise duty will expire on 31 July. If these measures aren’t extended, then this could add around 0.6ppts to headline inflation once this fully flows through to retail prices. However, the risks are skewed towards the government extending these measures for a little longer given previous fuel protests and the government’s healthy budget surplus.
Second, the impact of higher natural gas prices, which take longer to feed through to consumers than oil prices, will have started to show up in the inflation data. For example, Electric Ireland, the country’s largest electricity provider, has already announced it will raise electricity and gas bills by 8% and 7.7% respectively in July.
Third, we expect the ECB to hike rates next week, and probably once more later this year, which will push up mortgage interest inflation further as banks pass that hike onto mortgage holders.
All told, we see CPI inflation averaging 3.6% this year as the combination of higher energy prices, fertiliser prices and a strong domestic economy all contribute to above target inflation, which will drag on real household incomes and growth this year.
