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Inflation statistics: another gloomy sign?

July 2018

This month’s inflation data undershot. Another reason to be gloomy about the UK’s prospects?

  • By most measures inflation remains high. At 2.4%, this is still near its five-year highs, but economists had expected the oil price rise to exert more influence
  • The Brexit-driven spike in inflation is gradually working its way out of the figures
  • The big question is what this does to the Bank of England’s plans to raise rates in August

What conclusions can be drawn from the most recent inflation statistics? Is it a sign of the UK’s ongoing weakness, alongside slower wage growth, and therefore another reason to avoid UK assets? Or should investors be encouraged by lower inflation? After all, it continues to lag wage growth, and at some points consumers must surely see the benefit.

By most measures inflation remains high. At 2.4%, this is still near its five-year highs. RPI remains significantly elevated at 3.4%. However, economists had expected both readings to be even higher given the strength of energy prices. The downward pressure came from summer clothing sales and in spite of events such as the World Cup and Wimbledon.

It shows clearly that the Brexit-driven spike in inflation is gradually working its way out of the figures. Core inflation was significantly weaker than expected at 1.9% year on year. The high street remains the problem area. Burberry has recently been under fire for burning unsold clothing - the equivalent of 20,000 trenchcoats - and barely a day goes by without another chain getting into difficulties. It is clear that the great shake-up of the UK high street isn’t close to being over.

The big question is what this does to the Bank of England’s plans to raise rates in August, particularly given the ongoing uncertainty over Brexit and the sideshow of Trump’s trade war. Markets had been pricing in around an 80% chance the Bank would raise rates in August, as signalled by Mark Carney. However, the inflation data combined with poor wage growth figures could force a rethink.

They will need to balance some apparent inflationary pressures – such as output price inflation at 3.1% and raw material costs at 10.2% - against the continued weakness of the UK consumer. Ben Brettell, senior economist at Hargreaves Lansdown said: “I think the decision is more finely balanced than the markets would have you believe. The Bank will be mindful of Brexit-related uncertainty, and may decide to wait for confirmation that the weak first-quarter growth figure was just a blip before raising borrowing costs.”

These are difficult times to be a central banker, though it remains good news for borrowers. Those low interest rates look likely to persist for a little while longer.

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