Recession needed to solve the inflation problem

While CPI inflation will fall from 10.4% to around 3.5% this year, we think a recession involving a peak-to-trough fall in real GDP of around 1.0% is needed to ensure that domestic price pressures weaken to levels consistent with the 2.0% inflation target. Some of that weakness may stem from the recent concerns over the health of global banks, which may prompt UK banks to tighten credit conditions. But most of it will have to be generated by interest rates staying at 4.25% or above for all of this year. Provided that a weak economy reduces domestic inflation significantly, we think the Bank of England will cut interest rates to around 3.0% next year. Our forecasts envisages more rate cuts in 2024 than market pricing.