Data on Wednesday showed consumer prices rose by an annual 10.1%, the Office for National Statistics said, down from 10.4% in February but higher than the 9.8% forecast by economists polled by Reuters.
"Yesterday's wage data was strong and higher than expected and today's CPIs were higher than expected...so it's looking more likely that the BoE will hike by 25bps," said Francesco Pesole, FX Strategist at ING, who said in the short term this improves the outlook for the pound.
The inflation data initially sent sterling as much as 0.8% higher against the dollar. It was last down 0.2% at $1.2396 against the dollar, but held firm against the euro, rising 0.3% to 88.05 pence.
"..in the longer run, markets are pricing in three more hikes by the BoE, and are basically saying the BoE will take rates to 5%, but we're really not convinced they will," said Pesole, who said around 50 bps of tightening will need to be priced out of the sterling curve, a factor weighing on his outlook for the pound.
On Tuesday data showed British wages rose faster than anticipated last month, further supporting more hikes by the BoE.
More rate rises also raise the prospect of recession and a darkening economic outlook, even though concerns about a deeper downturn have receded in recent weeks.
"There is a real risk that the BoE will need to tighten to the extent that the UK economy slips into recession if it is to get the inflation genie back into the bottle. And that, for me, is why sterling has given up its early gains," said Stuart Cole, chief macro economist at Equiti Capital.
The market is currently pricing in a 99% chance of a 25 bp rate hike from the Bank of England at its next meeting..
(Reporting by Lucy Raitano; Editing by William Maclean)
