I have been asked to suggest why I am so confident inflation will fall this year. Let me offer an explanation.
First, there is simple arithmetic. Inflation is a measure of the change in prices, and not of absolute price levels. So it compares prices in a month with the prices of similar commodities a year earlier and the overall weighted difference is the inflation rate.
Prices grew a bit in autumn 2021 due to Covid reopening, which was badly managed. They increased dramatically at raw material levels when war in Ukraine broke out. That fed through to consumer prices. Inflation grew.
However, there have been no more price shocks since then. So there is no reason for prices to keep growing once they have caught up with what happened. They are doing this now. As that process of adjustment slows, as it inevitably will, inflation will fall, inevitably. All serious commentators now agree on this. This is the Office for Budget Responsibility forecast from November 2022 (black line):
This fall has nothing to do with increasing interest rates, austerity or low pay increases: it's just down to maths. Policy is not delivering this, events are.
Note though that falling inflation does not mean falling prices: it just means increases stop. So falling inflation is no reason to deny pay increases.
But there is a twist when it comes to prices. That is that they are falling when it comes to commodities. Look at these charts, for Brent oil, EU gas prices and wheat, plotted over the last year and all from Trading Economics:
There is a common theme: prices are back where they were pre the war in Ukraine. From their peak prices have fallen. In time this should be reflected in consumer prices, and the Office for Budget Responsibility do actually forecast deflation (falling consumer prices) in 2024 and 2025 for this reason.
Again, I stress that this has nothing to do with the government or its policies, and nothing at all to do with rising interest rates. It is simply that the panic that increased prices has passed. Shortages have not bern as bad as expected. Markets have returned to normal. Just as people panicked about toilet rolls in March 2020 so did commodity traders panic in March 2022. Their panic has just had bigger implications for us all, but the behaviour was much the same.
I see no reason for these prices to spike again at present. In that case even if people get inflation matching pay rises and that increases some prices the return to normal of these commodity prices should counter that in inflationary terms. For once, I think the OBR has this right: deflation is much more likely than inflation in 2024 given current circumstances. Inflation is going away.
What is not going away is the austerity, interest rate rises and pay suppression that inflation has been the excuse for. The rentier capitalists have not let this crisis go to waste: they have used it to wreak havoc when there has been no reason to do so. The pain will continue then long after the cause has gone, and that is by government choice.
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Good piece. Your graphs and analysis is, however also a reminder that for key commodities that are absolutely vital to the prosperity and security of the British people, the Conservative Government has, throughout this crisis, totally failed the British people in its first priority; not to leave the British , whom we can see from the price trends, the Conservatives left wholly unprotected and at risk to the panic of international commodity traders, and the unconscionable operation of free markets in a life changing environment for British households, notably in energy supply; without the provision of basic buffer stocks, or other resilence ensuring measures, to ensure security of supply or any stability whatsoever in end-user prices over a passing crisis. The consequences for Britain and its people have been catastrophic in economic terms.
You can only take back control if you believe there is virtue in ‘control’. The Conservatives are dogmatic free market ideologists; they don’t believe in control.
Agreed
It would have been better if I had not lost control, in my haste of a long rambling sentence ill considered sentence, and some bungled early grammar; ‘festina lente’ is a sound rule, but it seems I am incapable of living up to it.
I do, however think we insufficently challenge the Conservative (and now Labour?) proposition that IN ORDER TO TAKE BACK CONTROL, YOU HAVE TO FIRST BELIEVE IN ‘CONTROL’.
NEOLIBERAL CONSERVATIVES DON’T, AND CAN’T BELIEVE IN CONTROL; but they simply make the very claim they know they reject, and must reject, out of hand, as a propaganda device.
It is a sign of the depth our public debate has plumbed that this self-contradictory guff is now mainstream conventional wisdom; claim you represent the opposite of what you believe. That way Neoliberalsim can not only have it both ways, it can have it every way; and the Mail and Telegraph will convenently embody the imbecility for you, sell it on to a gullible public – and at the same time blame social media for dragging down public debate into the squalid gutter the mainstream press have long owned, promoted, and sold on shares in the squalor.
Commodity price inflation is lowering as demand is limited due to domestic and global recession. This will continue unless there is another major upset such as severe droughts or climate disasters affecting food production or some other calamity interfering with commodity production and distribution. The Ukraine war was not predicted until US and British military intelligence realised just a few weeks before. Floods were not predicted for Pakistan on such a scale until maybe anther decade. It looks like we have to be prepared for the unpredictable and build more “resilence” into our future economic planning which the so called free market is not designed for.
Your analysis is correct. It IS simple maths that means inflation will decline sharply. Rishi’s promise on inflation is only marginally more difficult to achieve than “my government promises to make the sun rise tomorrow”.
Also, we should not be surprised to see commodity prices fall back, commodity prices are weird beasts. By and large, there is very little scope to either cut demand or raise supply over the very short term. Even if you buy LPG to replace Russian gas it takes a while for it to arrive. Insulating houses will cut demand… but not tomorrow. Consequently, gas for “near term delivery” spikes tremendously…..although I would not describe this as panic – rather a rational response to short term supply conditions. However, gas for future delivery rises less sharply to reflect that, over time, other sources of gas will be found and people/businesses respond to the new price level by cutting demand. So, as time moves on, (and yesterday’s “forward price” becomes today’s “spot price”) it is almost inevitable that commodity prices (as typically shown in charts of the spot price) will fall back… as, indeed, we are seeing.
Retail suppliers understand this and will “smooth” wholesale prices to show more stable prices to retail customers. However, we must remember that energy supply is a cartel and suppliers will keep prices high. Why? – Because they can! We need to look at spread between wholesale prices and retail prices over a longish period (the full year before COVID probably makes sense) to see if retail is now being gouged. We also need to measure the spread in money terms not percentages – wholesale prices are only a part of the bill and other components should not change sharply.
We know these companies are out to rip us off – that is their nature. One would hope our government/regulator would police this for us…. but don’t hold your breath!
Sunak did not just say he would halve inflation (which is a very pessimistic assessment of what will naturally happen to inflation). He said ‘halve inflation this year to ease the cost of living and give people financial security’. Can someone please explain to him that halving inflation will do nothig to ease the cost of living unless inflation level pay rises are awarded now. Prices will not go down if inflation is halved.
Well spotted
Yes, he said HE would halve inflation. If the inflation rate he was ‘halving’ (!), is 11%, then halved is 5.5%. 5.5% inflation effectively wipes out most of, even the best of the public sector pay rises that actually have been achieved (in some disputes); which means, at best those who have settled are soon back where they started: 11% worse off than they were when they first made a claim; and Sunak’s claim is thus false, even using his own absurd assumptions, and setting to one side his quite risible vanity.
Never appoint a Goldman Sachs cloned cipher to a political post; it always ends in tears for some poor wretches; usually a lot of poor wretches. Better still, don’t elect them in the first place.
Absolutely. It is price level versus wage level that matters…
At the risk of winding up Richard…. does this failure to understand the difference between “price level” and “change of price level” (inflation) which is so common mean that differentiation should have a place in your “Maths for Life” curriculum that you blogged about the other day?
Yes, in a word
Presumably the second price shock would be if labour succeeded in securing pay rises commensurate with inflation suffered.
Why?
What is the price shock in that?
The price shock is if they do not succeed, reducing their spending power and creating recession as a result
The price of labour.
If it goes up by 10% say.
The price of energy was the first price shock,but the price of labour would be another
if allowed to succeed.
I’m not against putting up the price of labour but the logic of the market is that it would trigger further inflationary price rises as capital responded.
Why? If prices are up by 10% somewhat has to get the benefit. The whole increase is not due to materials so the gain has to be to Labour or profits. Why should it be to profit? Please explain? Your claim makes no sense to me.
If prices continue to increase but pay does not at the same rate, then workers suffer a continued decrease in their standard of living. People who have been just about managing (and not just the poor, but also people with moderate to good incomes, but commensurately larger and unavoidable expenditure, such as mortgages and supporting children) suddenly find that Dickens’s Micawber was right in David Copperfield (Dickens understood poverty very well) and they go from happiness to misery overnight. In modern terms, there is a cost of living crisis. So they demand increased pay. There is a lag and it is usually more gradual but pay tends to follow prices that have already increased, not the other way around. If not, who is going to buy the more expensive goods and services anyway?
I dont disagree but in a zero sum game between labour and capital pay award increases equals losses to capital.
Its a price shock to capital therefore if say labour secures a 10% inflation uplift.
That’s what I meant .
Not if that simply reflects the ore-existing distribution
The shock now is that the pre-existing distribution is being disrupted in favour of capital
The key point about a “shock” is that it sudden and often unexpected. It should not be a surprise that many workers are asking for proper compensation, particularly in an environment when many have suffered pay restraint for over a decade while some companies have recently been making windfall profits.
I would not be at all surprised to see many public sector workers who are currently in disputes agreeing to two or three year pay deals that give them increases of less than inflation for 2022, hoping to claw some of the lost ground back in 2023 and 2024, along with deals on conditions (it is not all about pay).
And these are mainly public (or quasi-public) sector workers Increasing wages of NHS workers, railway workers, postal workers, Border Force agents, teachers, etc, is not going to lead to increased prices in shops any time soon.
Many private sector workers have seen pay rises already. For example, some newly qualified solicitors (who may be only 24, if they graduated at 21, did the usual one year practical course and two year training contract, but relatively little actual practical experience) had their pay increased three times in 2022, from £145,000 to £150,000, then to £160,000, and finally to £165,000. https://www.legalcheek.com/2022/12/weil-bumps-nq-solicitor-rates-to-165k-in-london/ That is nearly 14% of an already very large number by most standards.
Accountants have also seen very big pay rises…..
Is it any wonder that the NHS has staffing shortages – staffing shortages that the NHS pay review body has wrung its hands about for many years, incidentally, while continuing to recommend very modest pay increases – if demand for services has increased but pay has been cut in real terms since 2010. https://www.nuffieldtrust.org.uk/resource/chart-of-the-week-what-has-happened-to-nhs-staff-pay-since-2010
If you don’t pay people enough, eventually some of them will go away and do something else that pays more. Such as working in a supermarket.
We should not be at all surprised if there is a further price shock this year – perhaps caused by conflict, perhaps famine or disease, perhaps a natural disaster, possibly climate influenced. These things happen and our economy should be robust enough to survive them. The present desperate problems we are suffering show how neglected our social and physical infrastructure has become and how little resilience our systems have. At some point, they will not just bend; they will break.
I am more of an optimist than you!
But I cannot see a big enough shock to repeat inflation on the scale we have had, yet
Richard,
Jonty Bloom in today’s the New European writes the government ” to be accurate, it does not care enough to find the money to heal the pain it is causing to millions of people”.
As you have written before the current Labour leadership is lazily accepting the Tory economic “orthodoxy” as the way forward.
Starmer will be surprised to learn that a considerable percentage of voters are not Labour shoe in voters in 2024.
I did a bit of a rule of thumb calculation based on the ONS CPI monthly figures issued November 2022 and there was a 2.1% increase (ie month on month) in April 2022 and thereafter it was around 0.6% apart from a glitch in October 2022 (1.6%) so I totaly agree with your assessment. I believe that the official inflation figure (year on year) will fall considerably in May 2023. Of course Sunak et al will hail this as a triumph of their government’s economic policies as will the Bank of England.
It does not alter, as you rightly point out, the reality that prices will remain higher than they were a year ago.
It is almost astonishingly true that some people do seem to be taking it that lower inflation rates next year will somehow mean that the prices of everything, which they face on a daily basis, will go down. Of course many people are desperate and truly need this to be the case, so will grasp at any straw. I tend to use a car metaphor rather than point to anything in numbers though – inflation going up is like a car speeding up: if the speed drops you are still going forward, just not as fast as before. You are certainly not suddenly going backwards. Sometimes it helps, sometimes it doesn’t.
Nurses have suffered a real terms decrease in pay of around 20% since 2010, hence the RCN claim for a 19% rise for the 2022/3 settlement. They are now hinting that a 10% rise may be acceptable if it went to a ballot of members which means they are still accepting a 10% or so cut in their living standards since 2010. If this does happen (doubtful in the present belligerent attitude of government,) the Rail, Fire, other health workers, education, border control etc may settle for an 8% or 9% rise but the government will only accede to these figures if public support for strikes continue. Whether this deadlock will improve the Tories poll rating is the question. They are prepared to gamble on increasing worker’s poverty while profits and dividends still increase for the wealthiest.
What do you think the impact of China opening up will have on inflation?
It should lower it by increasing supply
Richard, I am not sure you are right, though I hope you are. There is Brexit, the gift that keeps taking away. Every time a British company that exports goods or services, gives up the struggle and relocates to the EU, it weakens the pound and increases inflation. I am not sure that trickle will go away.
But perhaps I am wrong and the pound will stay strong. The ambition may succeed to make London the tax-free money-laundering capital of the world. That industry will employ very few people, but if it strengthens the pound, it will make other British exports less competitive. Creating selective pressure for greater inequality. Most people will be worse off and the gap between average and median income will widen. It will exacerbate the current trend, that inflation is highest for those least able to afford it. In addition, Britain will become less resilient because it will be more dependent on imports over which it has no control.
Six years in that is already priced in
Another factor regarding inflation is the effect of companies being able to push through price increases, but explaining them as resulting from cost increases. According to the chart below, US company profits have increased five fold since 2000.
https://tradingeconomics.com/united-states/corporate-profits
Maybe the term ‘Greedflation’ should be added to discussions about inflation (and so much more)?
https://www.fastcompany.com/90770163/the-age-of-greedflation-is-here-see-how-obscene-ceo-to-worker-pay-ratios-are-right-now