Embattled Rachel Reeves was offered a surprise respite today as inflation unexpectedly dipped.

The headline CPI rate slid to 2.5 per cent in December from 2.6 per cent the previous month, with core inflation also slowing.

Most analysts had pencilled in the level being unchanged, while any signs of a pent-up pressure could have fuelled the UK’s recent battering from financial markets. 

The figures could increase the chances of the Bank of England cutting interest rates next month – something that could help revive the stalling economy.

However, inflation is still above the 2 per cent target and there are concerns that it could rise again in the coming months. 

The Chancellor admitted there is ‘still work to be done’ to get families relief from the cost of living crisis. 

ONS chief economist Grant Fitzner said : ‘Inflation eased very slightly as hotel prices dipped this month, but rose a year ago. The cost of tobacco was another downward driver, as prices increased by less than this time last year.

The rate of Consumer Prices Index (CPI) annual inflation fell to 2.5 per cent in December 2024

Financial markets think the Bank of England will cut interest rates by a quarter point next month

Downward contributions to CPIH inflation from five divisions, led by restaurants and hotels

Responding to the fall in CPI inflation, Chancellor of the Exchequer Rachel Reeves (pictured in China last week) said she would ‘fight every day’ to improve people’s living standards

‘This was partly offset by the cost of fuel and also second-hand cars, which saw their first annual growth since July 2023.’

The ONS said the largest downward contribution to the monthly change came from restaurants and hotels, while the largest upward contribution came from transport.

On a monthly basis, CPI rose by 0.3 per cent in December 2024, down from 0.4 per cent in December 2023.

The rate of CPI inflation including owner occupiers’ housing costs – known as CPIH – stood at 3.5 per cent in the 12 months to December, unchanged from November.

Ms Reeves said: ‘There is still work to be done to help families across the country with the cost of living. 

‘That’s why the Government has taken action to protect working people’s payslips from higher taxes, frozen fuel duty and boosted the national minimum wage.

The annual inflation rate for restaurants and hotels was at its lowest level since July 2021

The annual inflation rate for transport was negative for the fourth consecutive month

CPIH services annual inflation rate now stands at its lowest rate since January 2023

‘In our Plan for Change, we were clear that growth is our number one priority to put more money in the pockets of working people. I will fight every day to deliver that growth and improve living standards in every part of the UK.’

Shadow chancellor Mel Stride said: ‘Whilst this month’s reduction in inflation is welcome news, there are still challenges ahead, not least the national insurance hikes – which some of will be passed on in higher prices – have yet to bite.

‘What is key for our economy is to get growth going, but this has been killed stone dead by this Government. The Chancellor needs to urgently explain how she will now achieve this.’

The Bank of England – which financial markets expect will cut interest rates by a quarter point to 4.5 per cent on February 6 – forecast in early November that CPI inflation would be 2.5 per cent in December.

A former Bank of England policymaker said this morning that Downing Street will be breathing a ‘sigh of relief’.

Speaking to BBC Radio 4’s Today programme, economist Michael Saunders said of the new figures: ‘I think you can hear a sigh of relief coming out from Downing Street, the Bank of England and across financial markets as a whole.

‘To be sure, inflation is a little bit above the 2 per cent target, but markets have been expecting today’s figure to be stable or higher and it came in a little lower than expected with services inflation, which the Bank of England is closely focused on, sharply lower than the previous month.’

Contribution to CPIH rate from housing and household services largest since September 2023

The contribution from owner occupiers’ housing costs rose for the 12th consecutive month

He added that the new figure would be ‘some help’ in easing some of the ‘worries about the outlook for the UK’.

Confederation of British Industry principal economist Martin Sartorius said the Chancellor’s hike in employers’ national insurance contributions would contribute to inflation remaining ‘elevated’ this year despite December’s slight fall.

‘Inflation remained moderately above the Bank of England’s 2 per cent target in December, reflecting the impact of ongoing price pressures such as strong wage growth,’ he said.

‘Looking ahead, we expect inflation will stay elevated this year, partly due to autumn budget measures contributing to higher prices.

‘Persistent, above-target inflation supports our expectation that the Monetary Policy Committee will loosen policy at a gradual, quarterly pace throughout 2025.

‘The next rate cut is still likely to come in February, which will bring some respite for businesses and households as they continue to face high borrowing costs.’

UK inflation now stands above the estimate for France but below the estimate for Germany

The CPI core annual inflation rate was last lower in September 2021, according to the ONS

Liberal Democrat Treasury spokeswoman Daisy Cooper said ‘stagflation remains a real threat’ without economic growth.

She said the ‘unexpected fall’ in the Consumer Prices Index rate of inflation ‘offers a glimmer of hope but the reality is the UK economy remains stuck in the mud’.

‘The Chancellor’s budget has failed. Growth is nowhere to be found after the damaging national insurance hike and stagflation remains a real threat,’ she said.

‘The Conservative Party’s economic vandalism cannot be overstated but the new Government’s approach has been totally flawed.

‘It is time for the Chancellor to rethink and bring forward thought through ideas for growth like rebuilding our trade relationship with Europe and scrapping their counterproductive jobs tax.’

Rob Wood and Elliott Jordan-Doak, economists for Pantheon Macroeconomics, said ahead of today’s announcement that they are expecting price pressures to build from 2025 with CPI inflation forecast to reach 3.2 per cent in April.