The UK's core inflation rate has risen sharply again, according to data released yesterday. It moved up from 109.685 in September to 109.9 in October. If projected for the next year that is equal to a core inflation rate of 2.35%. However, as described in previous month's this figure is an underestimate.
Firstly, the figures for the last few months have been distorted, because government subsidies such as Eat Out to Help Out, resulted in lower figures for August that were then caught up in September, so the increase from September to October looks smaller, by comparison. Compare the current reading of 109.9 to the August reading of 109. for example, and you get 4.95% as the year ahead figure. Looking backwards, yesterday's reading represented a core inflation rate of 0.7% as against October 2019, whereas the September figure was 0.5% higher than September 2019, so that this represents a 40% rise, in the rate of increase.
But, the main reason that the figures significantly understate the real rate of inflation is because they do not take into account the effects of lockdowns on spending patterns. The existing baskets of goods and services used to calculate core inflation, are heavily weighted towards things like petrol, and spending on things such as entertainment, eating out and so on. But, all of these are things that people were not allowed to do during months of lockdowns of one form or another. The cratering of demand for them resulted in their prices falling, but it makes no difference how much the price drops for something you can't go out to buy anyway! During lockdowns the proportion spent on these things fell sharply, but the amounts spent on other things increased, and its amongst these other areas of expenditure that prices rose, both as a result of this higher level of demand, and because of higher costs resulting themselves from the measures that had to be introduced to cover physical distancing and other measures. Yet, these forms of expenditure are not picked up in the core inflation measure.
A number of studies to produce a COVID adjusted measure of inflation have been undertaken in the US and UK, each showing a rate of inflation between 6% and 9%. If and when lockdowns are lifted, it seems inevitable that this underlying rate of inflation will manifest itself, especially as many of the increased costs will continue to apply, and as so called “revenge spending” kicks in, its inevitable that the first response of firms will be to raise prices, because, even if they try to increase supply, by hiring additional workers and so on, they will not be able to do that immediately. For example, after the first lockdown was introduced, car producers closed down, as showrooms were closed. Existing stocks of cars were cleared, as production stopped. When lockdowns were lifted, car dealers had no sizeable stocks to meet the resurge in demand, and with car producers needing to restart production, new car supplies were inadequate to meet demand, resulting in prices rising.
Britain is facing further rises in prices because of the effects of Brexit, and in the event of a crash out Brexit, the prices of some commodities could rise very sharply. Indeed, some commodities may disappear completely. That is a problem that will most notably affect Northern Ireland. Rising inflation in the year ahead will compound the effects of massively increased borrowing to cover the economic effects of lockdowns, of furlough schemes, increased benefit payments and lower tax revenues, as far as government is concerned, as well as increased borrowing by firms to make up for lost profits, and the need to invest as demand resumes and increases, and borrowing by households who have lost wages. In short rising inflation, and rising interest rates are ahead in the next year, potentially combined with rising unemployment, as many zombie businesses go bust.
Rising interest rates means falling asset prices, for things like shares, bonds, and property. Combined with rising unemployment, that is a situation similar to 1990, when many people who had been sucked into a rapidly overheating and overpriced property market, found that they could not pay their mortgages, and became dispossessed, with house prices falling by 40% in a matter of months. Again, we have seen the government goosing the housing market in the last few months, to inflate prices, which given the circumstances is almost certain to end in tears.
No comments:
Post a Comment