23 June 2022

The latest inflation data shouldn’t let the Bank of England off the hook


Perhaps this says a lot about the mess we are in, but May’s UK inflation data were almost a relief. Some are even arguing that they ease the pressure on the Bank of England’s Monetary Policy Committee (MPC) to raise interest rates more aggressively.

The bad news is that the headline CPI measure hit a new 40-year high of 9.1%, led by the continued surge in food prices. (The prices of food and non-alcoholic beverages rose by 1.5% in May alone, compared to a fall of 0.3% in the same month a year ago.) The latest Kantar survey suggests that grocery price inflation rose further in June.

The producer price data also continued to pick up, with the annual inflation rate for input prices rising to a new series-high of 22.1% in May, with output (factory gate) prices up 15.7%.

Nonetheless, May’s CPI inflation was at least at the lower end of expectations. Some had feared a much bigger increase from April’s 9.0%, after US inflation surprised on the upside. The numbers were therefore bad, but could have been worse.

‘Core’ inflation excluding food and energy also fell back, from 6.2% to 5.9%. Of course, this will not be much comfort to those families struggling to eat, or to heat their homes. But it may reassure the MPC, which is worried about more persistent inflationary pressures building in the domestic economy.

Indeed, there are some good reasons to think that overall inflation will peak sooner, and at a lower level, than many expect. One is that global activity has now slowed sharply. Many in the UK are wondering whether GDP will shrink in the second quarter of the year (which it probably will, if only due to the Jubilee distortions). But growth was already negative in many advanced economies in the first quarter, including the US, Japan, and France. While this is a ‘bad news’ story in other respects, it will at least ease some of the demand-pull pressures.

More positively, the supply-side pressures may also be fading. Part of the cure here is simply the passage of time. Prices have now been high for many months, providing both the incentive and the opportunity for consumers to find alternative sources, and for producers to increase their output. Higher wages are part of the solution to labour shortages, too.

Indeed, there are already some tentative signs – in commodity markets and in more timely business surveys – that supply disruptions are starting to ease and that input cost pressures are peaking. Even in the UK producer price data, the month-on-month increases in May were at least smaller than in April. The recent lifting of Covid restrictions in China will also help.

And even if prices simply stabilise at current high levels, the headline rates of inflation should fall sharply over the next year or so as the earlier big increases drop out of the annual comparison.

Above all, central banks are finally waking up and starting to withdraw some of the exceptional monetary stimulus that allowed inflation to take off in the first place. The US Fed, European Central Bank and the Bank of England all continued to pump huge amounts of money into economies that were already overheating. Now, at last, interest rates are being raised again, and monetary growth is cooling.

Despite this, there is no room for complacency. It is already being suggested that May’s inflation data are low enough to allow the Bank of England to raise rates by just another quarter point at the next MPC meeting in August, rather than up the pace.

However, the current level of official interest rates – just 1.25% in the UK – is still far too low. A continued drip, drip of small increases from here is unlikely to change anything. A half-point move would at least send a clearer signal that the Bank is serious about getting inflation back down again.

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Julian Jessop is an independent economist.

Columns are the author's own opinion and do not necessarily reflect the views of CapX.