On Inflation in February 2012

A few disorganised observation on the latest UK inflation report.

Annualised CPI fell from 5.2% to 4.2%. It is expected to fall further during the year.  CPI inflation is still more than twice the Bank of England’s target for inflation of 2%. It’s been above target since Q3 of 2007, except for the a couple of quarters when the world’s economy stopped. The Bank’s forecast is that it about even money if inflation will *still* be above target in two years’ time.

GDP not returning to pre-crash levels until the 2^nd half of 2013. The commentary implies persistently high unemployment until after the economy returns to its pre-crash levels. The UK economy appears to have lots of spare capacity, high unemployment, low demand and low wage growth which should indicate falling and low inflation.

Inflation is not only driven by domestic factors and wage inflation in China and oil and energy prices will be significant factors. There is not a lot the Bank of England can do to address these.

£50bn of additional quantative easing. Two points arise. I’m not sure of the long term impact on inflation of 300 hundred billion pounds of freshly minted cash. It might have very little effect. It should have a long term inflationary effect. My gut feel is that the effect of quantitative easing on growth and inflation will be felt later rather than sooner.

Secondly, at some point the money injected to the economy has to come out. I think there is a risk that we get a sudden spurt of QE assisted growth as everyone who has hoarded QE cash realises the economy is saved and spends it. This will cause an up tick in inflation and these effects will be reversed as the Bank of England removes the £325bn of additional cash from the economy. This will make the economy look and feel less certain than it is. This might add another year of wobbly uncertainty. Not so good if you are looking for a job.

Real incomes continued to fall in the face of lower wage settlements and rising energy and import prices and against a background of stubbonly high inflation. Households are also saving more money. 

Businesses are also hoarding cash.

A fairly standard Keynsian response to uncertainty but unhelpful if you want people to buy stuff. The Bank seems uncertain about why the savings rate has increased. They seem uncertain about a lot of things. I am uncertain about how uncertain they are.

Inflation has been running at 4% percent a year for the last few years.  Real wage growth since the crash has been 2%. Not 2% per year. 2%.

Every time I look at one of these reports they predict a slow improvement in the economy starting soon but not quite yet.  Jam tomorrow.

So, I continue to fret away about inflation and the causes of inflation. Not because it is high but because it is uncertain and it is surrounded by bad news.