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Higher Inflation "Should Be Celebrated"

Inflation has picked up in Britain and America but its return has divided experts

The fear of deflation has disappeared. Now inflation is ratcheting up across the world as the effect of cheap oil drops away. In the UK, the slide in sterling after the Brexit vote caused the cost of imported goods to jump, leaving a nation fretting over the price of prosecco.

The US too saw inflation pick up earlier in the year, prompting the Federal Reserve to raise rates to their highest since 2008. Elsewhere the picture is mixed. Eurozone inflation dropped back to 1.4 per cent in May while Japan’s is close to zero.

The Economic Cycle Research Institute says its “future inflation gauge” is climbing. Lakshman Achuthan, of the institute, however, points to a simultaneous long-term decline in world export price inflation. So is the decade of low inflation really over and if so, what is its legacy?

Dame DeAnne Julius, University College London Council chairwoman and founding member of the Bank of England’s monetary policy committee.
Inflation is awakening from its decade-long sleep and near-death descent into the negative underworld. The global financial crisis took a long time to unwind and this has kept inflation low. Credit growth was sluggish both because of weak demand and tighter regulation of banks. But both supply and demand for credit are now expanding as banks have adjusted to higher required capital ratios and consumers have regained their confidence. The world economy is now in the early stage of a cyclical upswing. Signs are accumulating of stronger growth, especially in the US, UK and Germany, where unemployment levels are near record lows. There is generally a lag between falling unemployment and rising inflation which creates a sweet spot of rising real incomes, which in turn drives a positive dynamic via consumption-led demand. Shifts in exchange rates and stronger oil prices also feed into inflation pressures in the UK, where we should expect it to exceed the Bank of England’s 2 per cent target for at least the next two years. Opinion on the MPC seems to be shifting towards this, building the consensus for raising interest rates.

None too soon. The legacy of low rates has been high house prices, a distorted government bond market, greater income inequality due to skewed ownership of financial assets and the suppression of corporate investment because of the excess burden of pension liabilities. Higher inflation and rising interest rates should be celebrated as the by-product of a healthy recovery.

Stephen King, HSBC’s senior economic adviser
Inflation will continue to be, if anything, too low. Despite remarkably stimulative monetary policies, central banks have struggled to push inflation up to target. Structural forces are dominating the usual cyclical ups and downs. High levels of debt dissuade companies and households from taking advantage of cheap borrowing. Population ageing tends to favour low inflation — the last thing pensioners want is a rise in prices that wipes out their pensions. Technology and heightened capital mobility have reduced the bargaining position of labour; with the increasing use of zero-hours contracts, for example, the wage-price spirals of old no longer threaten. Yes, there will be times — sterling’s post-Brexit fall, for example — when UK inflation temporarily sticks its head above the parapet. These will be the exception, not the rule. There are plenty of economic challenges: Brexit, protectionism, productivity; inflation is not likely to be one.

Simon French, chief economist, Panmure Gordon
No, the period of low inflation has not ended. The pick-up in consumer and producer prices mainly reflects “base effects” from the very low inflation of 2015-2016. In the UK this has been magnified by the pound’s weakness.

The global factors that have held down the inflation rate over the last decade are unlikely to reverse soon. Industrial overcapacity, the falling cost of capital from digital disruption, ageing demographics and deregulated labour markets weigh on prices.

This is not to say high inflation will not return as the world grapples with the legacy of $215 trillion of debt but the pain does not appear imminent.

Low inflation’s legacy has been a hunt for yield among corporates and investors that has blown up enormous asset bubbles and increased wealth inequality. Allied to low nominal pay growth this has created a dual-speed economic recovery. As this persists, electorates will be drawn to vacuous ideologues and firebrand orators.

Rain Newton-Smith, CBI chief economist
Inflation has been volatile over the past decade, buffeted by two cycles of boom-and-bust in commodity prices. And over the past six months or so we’ve seen exceptionally low inflation give way to above-target price rises as the pound’s sharp fall fed through.

In my view, this still has some way to run. Major importers often hedge 12-18 months ahead and many have only recently started negotiating with suppliers. It’s not just the exchange rate that’s a concern. Businesses across the UK are seeing costs under pressure from a range of policies, such as the national living wage, apprenticeship levy, auto-enrolment and business rates revaluation.

In the medium-term, the best way of coping is for businesses to keep investing in productivity-enhancing technologies that can deliver savings to keep price rises under control. But in these uncertain times the risk is that these don’t get the go-ahead. A focus on productivity by business and government will help keep inflation low over the decade ahead.

Ian Stewart, chief UK economist, Deloitte
UK inflation is likely to stay around 2.7 per cent for the next year or so before easing back slightly as commodity prices ease and the effects of a weak pound fade. Still, this means inflation is likely to be above the Bank’s 2 per cent target for the best part of three years. This all looks a bit like the above-target inflation we saw between 2010 and 2014. Then, as now, commodity prices and a weak pound were the main culprits.

Britain’s rising inflation and low unemployment is likely to put upward pressure on wages — but probably not enough to compensate fully for inflation. Again, the UK consumer seems likely to bear much of the weight of higher inflation in a squeeze on spending power.


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