LONDON, March 26 (Reuters) - British government bond yields and the pound fell on Wednesday after data showed UK inflation slowed more than expected in February, offering some respite for finance minister Rachel Reeves ahead of a high-stakes fiscal statement later in the day.
Data showed inflation cooled to an annual rate of 2.8% in February from 3.0% in January. That was below analysts' expectations of 2.9%, although many warned energy prices and tax increases would push the rate back up towards 4% this year.
Bond investors cheered the inflation figures, with yields on interest-rate sensitive two-year gilts down 6 basis points (bps) to 4.243%. Yields move inversely to prices.
Traders in money markets nudged up their bets on Bank of England rate cuts this year, according to swap market prices, and now see 45 bps of reductions compared to 40 bps on Tuesday.
"Ahead of the spring statement, today's inflation data should give Chancellor Reeves some reprieve," said Sanjay Raja, chief UK economist at Deutsche Bank.
"Underneath the hood, however, there remain some concerns around services prices," he said. Inflation for services held at 5%, slightly above the 4.9% rate that analysts expected.
The pound was last down 0.3% at $1.2908, having traded at $1.294 before the data. It also weakened against the euro, with the common currency up 0.4% at 83.71 pence. ,
The FTSE 100 stock index was flat but outperformed broader European stocks, which were 0.6% lower.
SPRING STATEMENT
Britain's jittery bond markets will be in the spotlight on Wednesday as Reeves unveils spending cuts as she seeks to stick to her fiscal rules of balancing day-to-day spending with taxes by the end of the decade.
Benchmark 10-year bond yields shot to their highest since 2008 in January, just below 5%, reflecting concerns about sticky inflation and high government borrowing as well as a global sell-off.
They have since cooled and fell 4 bps to 4.716% after the inflation data on Wednesday.
Bond investors will focus on the government's gilt issuance plans for 2025/26, with analysts polled by Reuters expecting bond sales of 304 billion pounds next year, the second highest amount on record behind 2020/21, during the pandemic. A much higher number could spook the market.
"On the size of the remit, 300 billion pounds is the crucial number," said Ales Koutny, head of international rates at Vanguard. "Much above or below it and markets will react accordingly."
Koutny said he expects spending cuts to restore Reeves' so-called headroom against her borrowing rules of around 10 billion pounds, which has been wiped out by lower-than-expected growth and rising government bond yields pushing up borrowing costs.
The Office for Budget Responsibility is expected to slash its growth forecasts after predicting a 2% GDP expansion in 2025 back in October.
Reporting by Harry Roberton, Alun John and Stefano Rebaudo; editing by Andrew Heavens and Ros Russell
Source: Reuters