The British Pound has sustained its 2025 recovery rally against the Dollar following an uplift from fresh inflation data.

The GBP/USD exchange rate remained above the crucial 1.26 support level after UK inflation unexpectedly increased from 2.5% in December to 3.0% year-on-year in January, surpassing forecasts of a 2.8% rise.

Sterling's gains coincide with a rise in services sector inflation, which climbed to 5.0% in January from 4.4%. This has fuelled concerns that inflationary pressures are becoming more widespread, potentially prompting the Bank of England to adopt a more restrictive approach.

With an inflation target of 2.0%, the Bank now faces mounting signs of rising price pressures, suggesting that the standard response would be to maintain or even raise interest rates, Pound Sterling Live reports.

However, the Bank of England anticipates inflation could rise to as much as 3.7% this year but views the increase as temporary. Despite this, it has signalled its intention to proceed with interest rate cuts.

“CPI was on the hot side for January. But driven by goods (95th percentile for Jan), whilst services was soft (45th percentile). Worryingly, inflation breadth was high for January (50% of basket running at >2.5% inflation). Doesn't support faster BoE cuts,” said Viraj Patel, a Vanda Research strategist.

That said, February's inflation data appears stronger than the Bank of England may have anticipated, suggesting it could be forced to pause its rate-cutting cycle later in the year.

Inflationary pressures are expected to intensify in the spring as the government introduces substantial new business taxes, likely prompting companies to raise prices.

“In April, the private sector must determine its response to significantly higher employment costs, and this may well push up consumer prices,” according to Dr. Roger Barker, Director of Policy at the Institute of Directors.

As a result, money markets are likely to factor in fewer rate cuts, supporting UK bond yields and automatically strengthening the Pound's value.

The Pound-Dollar exchange rate climbed to a high of 1.2639 in midweek trading, marking the best level for Dollar buyers since 19^th December. While the stronger-than-expected UK inflation data has provided some support, the majority of the Pound’s gains stem from a weakening Dollar.

“The greenback remains on the back foot as the Dollar 'Trump trade' has gone into reverse,” said Jonas Goltermann, Deputy Chief Markets Economist at Capital Economics.

“Between news on President Trump’s tariffs plans, his steps towards an apparent rapprochement with Russia, and some softer US economic data towards the end of the week, the Dollar has dropped to its lowest level in two months,” he added.