UK inflation expected to climb as BOE rate decision and autumn budget loom

All eyes are expected to be on Wednesday's UK CPI release, coming as it does just before the autumn budget. Another strong inflation print could seriously complicate things for the government and the Bank of England alike.

Forecasts put the annual headline rate at 3.4% for September, compared with 3.1% in August. Core inflation is seen moving up as well, to 2.8% from 2.6% a month earlier.

Such a result would push price growth further from the BOE's 2% goal, while elevated energy bills keep weighing on households. Services inflation, meanwhile, remains stubborn and continues to complicate the central bank's efforts to cool broader price pressures across the UK.

The UK economy is not in a state of collapse, but consumer spending is weak and the jobs market is increasingly showing stress.

The August GDP estimate showed 0.1% growth, a surprise driven mainly by production, while services output was flat for the month. The most recent jobs data showed payrolls still declining in August, down 0.5% over the year. July's unemployment rate stood at 4.9%, an increase of 0.2% from a year earlier.

That leaves the Bank in an awkward spot. There is no immediate cause for alarm, but the situation may become more uncomfortable if these opposing trends persist.

Markets are currently assigning around 95% probability to a 25 basis point rate increase at the 5 November meeting, and they have also priced in a further 25 bp move by February next year. The next step therefore looks all but decided. The bigger concern, as I see it, is whether the inflation path makes the argument for additional tightening more convincing.

Before the Bank's decision, however, the 28 October budget arrives, coming on the heels of this week's inflation figures.

Chancellor Healey has promised help for households under pressure while seeking to keep government borrowing and gilt yields in check. Rising inflation only makes that juggling act harder. Extra fiscal measures may soften the energy hit, yet a costly plan that rattles bond investors could still send borrowing costs up.

It is a heavy load of events packed into the next fortnight.

A UK inflation reading that comes in above forecasts could firm up bets on more tightening from the BOE, at a time when elevated rates are already hurting households and companies. A weaker number, by contrast, may provide some comfort, but it is unlikely to resolve the country's fiscal troubles.

Investors may be readying for a November move, but the bigger issue traders should focus on is just how much additional tightening the UK can absorb.