The highest rate of inflation among the original G7 members, is currently our UK inflation rate. Although there is much doubt about how representative the official UK figure is, no one really believes the official figure over estimates inflation. The October figures can be found at the foot of this report.
Over a decade after inflation and interest rate management was taken out of the hands of politicians this is an unexpected predicament. The whole logic of the hope of the 1990s was that the UK would have a sounder monetary system if politicians and their short-term agendas were taken out of this level of economic management. That was supposedly the lesson of experience overseas.
In 2010, one now has to ask whether price stability would have been better served, had it been something for which Gordon Brown, Alistair Darling, George Osborne or David Cameron had still been answerable every week at Question Time. This would have been a question that would have been asked for some years now, had not the entire political class rallied behind the Monetary Policy Committee system that New Labour used to claim was its most important reform.
UK inflation has now been above its target for most of the last 4 years. By contrast none of the other G7 has above target inflation. The standard G7 target is 2 % or less. An inflation rate of zero would be seen as the ideal. But here the UK is the odd man out. Our central bank would have to explain itself if the inflation rate was less than 1 %. Such a rate would be treated as as form of deflation, something to be averted here in the UK, unlike in other countries. Other countries trust their inflation indices and if inflation is reported as being about zero, that would not be regarded as a potential economic crisis but as an achievement.
The UK inflation indices are being reviewed by the UK Statistics Authority and we have been making representations to them about how our inflation indices can be more securely based. Details of the lessons from other countries can be found in our September report.
Should global inflation not fall back as the Bank of England hopes, the UK would be further blighted by already having the highest inflation. In our previous reports we have emphasized how global food, energy and resource prices are being driven up by ecological and population pressures. Being geared to respond to this sort of inflation will become the main challenge of economic policy across the planet.
However, the recent concern over ‘Currency Wars’ needs to alert us to another aspect of the global price shift that none of the mainstream economic commentators have picked up on. The US wants the Chinese to allow the Yuan to rise against the Dollar and other major currencies, so that Chinese made goods are not under-priced in comparison to other producers (and especially the US). However, this must necessarily mean that the price of the goods China manufactures will then rise alongside food and resource prices. Against this background, the Bank of England’s confidence that inflation is temporary, even if an increasingly long ‘temporary’, seems very complacent.
One of the major reasons why the Bank has got away with such complacency, is the very poor scrutiny they come under from the mainstream media. Most months the announcement of the official inflation figure is accompanied in many media by an economist from the banking sector telling us that inflation is not the real worry, and that interest rates need to be kept down. At the moment the profits and bonuses in the banks are largely the result of them being able to borrow off the public at the historic low interest rates and lend out at much higher rates.
This usually goes unquestioned by the media, adding to the confusion over inflation in this country and the negligence with which it is addressed. It is at its most objectionable when the BBC allows the bankers to spread this confusion through a media service paid for by taxpayers. For November’s announcement BBC 24 had on the economist from the investment bank Investec, last month it was his counterpart from HSBC.
The BBC tends to say that the difference between the Consumer Price Index (CPI) rate of inflation and the Retail Price Index (RPI) rate of inflation is that housing costs are included in the RPI. But this is an over-simplification bordering on misrepresentation. There are housing costs in both indices. When we look back on the biggest house price bubble in British economic history over the last decade, no one can argue that even the RPI registered the cost of housing in such a way as to prompt the adjustment of interest rates to curb it.
By contrast in the USA, once house prices reached 4 times average houshold income in 2005, this cost had such weight in the US Consumer Price indices that it raised the inflation figure. This raised the alarm with the central bank that prompted the interest rate increase that brought their relatively minor house price boom to an end. House prices fell back to below their long term trend of 3 times household income.
That American Consumer Price Index is an index that can be properly said to take housing costs into account. The current high level of our RPI inflation has nothing to do with the fact that our UK houses are still over 4 times average household income. While the RPI might talk the talk about taking housing costs into account, it does not walk the walk in the way that the US consumer price indices do.
Stephanie Flanders, the BBC’s economics editor is listed as a member of the ONS’ s advisory committe on the inflation indices. ( Their current report can be found here. ) This advisory committee has resisted change to these poorly constructed indices since before the 1990s. They are now proposing the most minimal of changes to the current indexing system while supposedly accepting that housing costs must be better represented in the index. This graph is from Annex A of their report.
It shows how neither of their preferred options for change regarding housing ( Net Aquistions and Rental Equivalence) would have changed the inflation figures during the ‘boom’ by very much and so would not serve as any alarm in future. Their new figures would not be significantly different, whatever the advisory committee say.
In any event, properly involving housing costs in the indices is only part of what we want to see. Regionalising the indices is even more crucial as we explained in last month’s report.
October’s comparable inflation figures are currently
United Kingdom 3.2 %
Canada 2.4 %
Italy 1.7 %
France 1.6 %
Germany 1.3 %
USA 1.2 %
Japan 0.2 %