Sterling fell on Wednesday after British prices in August grew at their slowest pace since late 2016, while concerns about whether a last-minute Brexit deal was achievable also weighed on the currency.
Prices of goods and services paid by consumers rose at an annual rate of 1.7% in August after a 2.1% increase in July,official data showed. A Reuters poll of economists had expected a rate of 1.9%.
The lower-than-forecast rate will be a welcome boost for British consumers and comes ahead of the Bank of England's monetary policy meeting on Thursday. The BoE targets a 2%inflation rate.
"While the data will likely cause a knee-jerk sell-off in sterling and stoke some volatility, market focus and long-term direction will continue to be driven by parliamentary and Brexit developments," said Sam Cooper at Silicon Valley Bank.
The pound, which hit as low as $1.2439 after the inflation data, was last down 0.2% at $1.2477.
The currency had rallied to a six-week high on Tuesday of$1.2528 on the back of optimism that Prime Minister Boris Johnson was trying to secure a Brexit deal with the European Union before the October 31 deadline.
Investors have been reassured by British lawmakers voting to block a no-deal Brexit, helping sterling to rally strongly over the past week.
But there was some caution on Wednesday as European Commission President Jean-Claude Juncker said the risk of a no-deal divorce was "very real".
"My sense is a deal is hard and doesn't look like the government's legs are running hard enough under the surface to keep the EU happy," said Colin Asher, an economist at Mizuho Bank. "Ahead of the recall of parliament, we see sterling more or less range bound until it's clear Brexit will be delayed."
Against the euro sterling was little changed at 88.605 pence.
The BoE is expected to keep interest rates at 0.75% on Thursday when it meets. Policymakers have said rates could rise or fall in the event of a no-deal Brexit.