UK inflation expectations have risen to a 13-month high after the sterling slump drove consumer inflation up beyond economists’ forecasts in July.

The 5-year breakeven inflation rate – the difference between yields on nominal government bonds and inflation linked bonds – has jumped 4 basis points to 2.596 per cent.

That’s the highest level since July 2015.

Inflation expectations have rocketed in the wake of the referendum amid widespread anticipation that the collapse in sterling will fuel price rises.

Even after the sharp rise in inflation expectations, Bank of America Merrill Lynch strategists have suggested the market is underestimating the upwards path of inflation.

They estimated retail price inflation will rise to 3 per cent by the end of this year and 3.7 per cent by the end of 2017.

Shortly after the late-June referendum, they said:

UK inflation faces conflicting pressures: the disinflationary influence of the recession we now expect versus the inflationary impact of Sterling’s fall. We expect the latter to prevail, in the same way it did in the previous crisis. However, the upside threat to inflationary expectations for the next few years is not just about the pound. Brexit threatens import tariffs and supply-side damage that would also work to underpin inflation.

Chart courtesy of Bloomberg

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