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Inflation has fallen much more sharply than expected in July. It has dipped to 1.9%, helped by weaker food prices.

The Government uses the Consumer Price Index (CPI) as its main measure and this has fallen dramatically from June’s level of 2.4%. There is now some hope that another base rate rise will not be needed after all.

This is the first time that inflation has been under 2% since March 2006. The Government’s target for inflation is 2%. Another inflation measure, the Retail Price Index, fell to 3.8% in July, having been at 4.4% in June. This measure is often used for wage bargaining.

The fall was the biggest since CPI started being used as the main measure of inflation in December 2004. Its fall is a big surprise to everyone, including the Bank of England.

There had already been some murmurings about the base rate not being pushed up in September after global stock market turmoil in the last few days. Surely with this news about inflation, there could be no justification for a rate rise at the moment.

The FTSE 100 rallied on the news after early falls on Tuesday, but the falls were nothing compared to those of last week. The troubled stock market was in danger of losing investor and consumer confidence, but the good news on inflation should help stabilise the markets in the UK at least.

Last week the Bank of England suggested in its quarterly inflation report that one more rate rise might be required to control inflation, but there is now speculation that the rate peak might have been reached at 5.75%.

The news of inflation caused a sell-off of sterling, which dropped below two dollars for the first time since mid-June. Today it dropped from $2.008 to under two dollars very quickly.

Food prices have gone down - from bread and cereals to meat, fish and fruit – and this was the biggest contributor to the CPI fall as supermarkets cut prices to compete for market share.
Heavy discounting by furniture retailers also seeking to attract customers into stores during the wet summer also helped push inflation below the government’s key 2% mark, as did lower energy bills.

There is a note of caution, however, as the summer floods in the UK could cause supermarket shortages in the coming months, which would in turn push up the prices of food, particularly vegetables and milk.