Our mythical low interest rates – Alternative Inflation Report

With inflation now clearly established above the 2% target – in defiance of the hopes of the Bank of England – most commentators are now expecting interest rates to rise in the months to come.

Interest rates paid by UK households are, however, already some of the highest in Europe, despite all the talk of record lows you will hear from the mainstream media. Here are our average mortgage rates compared to the sick men of Europe as well as Germany:

This is despite the UK Base rate being 0.5%, and the Main rate set by the European Central Bank being twice that at 1.0%.

The record lows are what the banks are paying to savers. As can be seen here against the same countries and sourced from the ECB Data Warehouse (to which the Bank of England contributes the UK figures).

Squeezing borrowers and paying so little to savers is the main reason why the banks are currently losing less money and paying out bonuses again. But the consequence is that the wider UK economy is not recovering unlike most of the rest of the world economy. A more up to dates comparison can be found here.

The need to boost the Sterling exchange rate

If more people and businesses with savings brought them into the Sterling economy, the Pound would recover from its prolonged weakness, and this would bolster the purchasing power of everyone in the Sterling economy in buying food and energy in the international markets. This is the way in which increasing interest rates for savers helps to bolster UK living standards and domestic consumption/employment.

To do this while discouraging abrupt increases in outgoings for borrowers, would require the Bank of England and the Treasury to urgently revise how the Bank of England ‘Base Rate’ is used as guidance. And this is a revision that is now well overdue.

Some might object that the sagging value of the Pound holds down our export prices. Twenty years ago when David Cameron was a Treasury special advisor, manufacturing accounted for about 25% of UK employment. And devaluation did launch the employment boom after the Pound fell out of the European Exchange Rate Mechanism in 1992.  But now manufacturing is just under 10% of employment, even in an old heartland like Birmingham. So gains or losses in manufacturing employment would need to be two and a half times as large to have an effect with any similarity to what happened while David Cameron was working for Chancellor Lamont .

So any monetary policy other than safeguarding domestic living standards makes less sense than ever before. Especially as the sort of inward investment in manufacturing that we saw after 1992 from the silicon chip industry, Toyota and even BMW is not happening now.

Getting inflation in proportion

Other major G7 countries are managing inflation better than we are. They measure it better. They measure it as it impacts upon different parts of their countries and social structure – something we want to see done here in the UK and are currently pressing for. This has allowed inflation to be long-term suppressed by more painstakingly proportionate decisions.

The USA gives out the most comprehensive set of inflation figures every month. This month the CPI-U, representing the broad urban population, is  2.1% .  But it also gives a CPI-W figure for ‘urban wage earners and clerical workers’ which this month is  2.3 %. But they don’t just give a national figure for each of these populations. They also give a CPI-U figure and a CPI-W figure for most of their big cities and the US census regions.

This has made the USA very sensitive to emerging inflation and has prompted the USA to be one of the world’s lowest inflation economies.  A worker in Chicago and the Mid-West knows whether his prices are rising in line with the official figures for his area, in a way that someone working in Birmingham, England cannot because we only get a couple of different national disembodied averages for our official figures. So if the US figures are out of proportion with what workers are finding in the American cities the figures can be challenged in a way they cannot be in the UK.

Although the monthly figures can vary quite a bit across the US, in the longer run their system keeps them in line. On the basis of the index running since the early 1980s, price rises for Chicago have been less than for the US as a whole.  But only by a couple of per cent over what is now a whole generation (USA average currently at 221 and Chicago at 216). Prices for the workers have risen less than for the broader population – 218 for the US and 210 for Chicago workers, despite the current monthly figure being higher.

France also has an index that is intended to represent the total population as well as one that represents what is called an urban household  headed by a worker. It is particularly used for adjusting the minimum wage. For France  inflation was   1.7 %  for the main population in February and 1.6 % for the worker’s household. Until the 1960s France used to only calculate an inflation rate for Paris and say that that was the French inflation rate. But they continued to maintain a Paris index until about the time the Euro was launched.

The French have been able to keep inflation for these worker households in step with that of the overall population. Below you will see the figures showing how prices have shifted in the first years of the Euro before any of the dramas of recent years intrude into the story. In the table below 100 = 1998.

The figures are very much in step, as were the US figures because a more sensitive approach to tackling inflation tends to follow from such detailed indexing.

The Italian indices for registering inflation are today pretty much identical to the French system. In February the inflation rate for the broadest population was  2.4 %, and 2.3 % for workers’ families. Unfortunately the Italians no longer translate their full monthly release. It can be deciphered with only a basic French/Italian at the link here.

Table 4 of the Italian monthly release gives inflation rates for most of Italy’s big cities. This is most probably because inflation indices were first started by the big industrial cities like Milan, and led by Milan. It was Mussolini who brought in the national index, almost certainly because it would justify lower pay settlements for workers in the industrial cities than the local city inflation rate would justify.

So a basic local figure has since acted as a double check on the system – as it does in the USA. Milan is Birmingham’s twin city and inflation there is slightly less than the Italian national norm being currently registered as  2.3  %.

German inflation for February is 2.1%. Germany now only does one figure for the broad population of Germany. But most of the large federal states have produced a figure for their own local population since the 1960s. The State of Hesse, which is home to Birmingham’s twin city of Frankfurt, has an inflation rate which is slightly lower at 1.8%. We also have a twin city in the former East Germany which is Leipzig in the state of Saxony. The Saxon inflation rate is currently higher at 2.2%

However, Germans have lost trust in German price statistics since Germany went into the Euro in 1999. This is because the German government abandoned its more extensive range of monthly inflation indices. Former West Germany had produced price indices based on four household types across Germany. They were as follows:

The old West Germany ran such sub-headings since the 1960s when the managerial household was added to complete this set. When the West took over East Germany in 1990 they began to run a parallel set of sub-indices for there. By 1999 when these sub-indices were abolished along with the D-Mark, they were holding the inflation rates for all these households remarkably in step in both the former East and West Germany. Based on 1995 being 100, the family households in both East and West were at 105 on the index, and the ‘All household’ indices and the pensioner households were on 106.

Germany abandoned these baskets when they entered the Euro. They said this was because there were not enough four-member families to justify it. But had they assembled a more contemporary basket for families they might have maintained the confidence that there had been in the old system.

From what has been shown here of how other G7 countries register inflation, you will be able to appreciate the basis of what we are proposing should become our framework of inflation indices.

Our report for last month, which outlined how the global price spiral had to become the focus of our domestic economic policy, can be found here.

Andrew Lydon

Regional Prosperity & Inflation Project

Alternative inflation report – coping with an inflationary global economy

For the last couple of years we have been posting our alternative inflation reports just after the inflation figures for the main G7 economies have come out.  However, for over six months a pattern has emerged: the UK now has significantly higher inflation than any of them. So this month we will use this report to flag up some issues for readers to have in mind next Tuesday when the figures on the latest installment in our national inflation fiasco are announced.

The rise in food and energy prices has been seen by all sides as having  ignited the political explosion that has rocked north Africa over the past month or so. However, it is worth recalling that the official recent inflation figure for Tunisia was only 4% and in Egypt it was only about 10 %, which is about half the rate it was a year earlier.

Price Explosions

These inflation rates seem minor by comparison to the 1970s when no such explosions occured. One must conclude that it is the background of slow income growth, and the fact that the prices rises have been continuous –  that is making this crisis so intense.

The Bank of England always talks of keeping on top of people’s expectations, and preventing an inflationary spiral from taking off.  However, this current spiral in food and resource prices is international, and it is this international spiral that has taken off.  So has not now the time come to re-think our policies ?  So as to gear-up the UK for riding out this storm and the others that will come along.

While it is international resource prices that are driving this spiral, prices originating domestically must fall back otherwise inflation will be higher than it need be. Things like housing costs will have to fall if we are to pay higher prices for food and energy. This can already be seen in the United States but is not yet happening here. In December inflation for US urban consumers was 1.5 %.  If you look in the set  of figures released with that December US figure you will see that with what the Americans call ‘shelter’ taken out of the index, the US inflation figure would have been 2.0% For Chicago, without shelter inflation would have been 1.7 % instead of just 1.2 %.

Housing costs falling ?

So the falling price of houses and their rental prices is holding US inflation down. For most of the post-war period,  US house prices have been on average 3 times Gross Household Income.  When they reached 4 times average incomes  in 2006,  the US inflation index brought that little housing boom to a sudden end. And prices are currently under 3 times income.

Germany is the other major country that has a history of  being tough on inflation.   A big part of their success also lies in holding domestic accommodation prices down. Germany has held house prices stable for decades. Against a background of steady income growth this has made home ownership increasingly affordable for more people over the last couple of decades. While in relationship to incomes house prices in Germany are not dissimilar to UK prices, that is a steady improvement in a country that had to build so much of its housing stock after 1945. Home ownership affordability is improving most in the small towns and rural areas unlike over here. Homes in big cities are still too expensive for many to buy.

The main reason why the Germans and US have been more effective than us in holding housing costs down is that their inflation indices are very sensitive to housing. They are a big part of the notional baskets on which inflation is calculated. Almost a quarter of the US basket represents the value of owner-occupied housing alone.  20% of the German Consumer Prices Index is based on housing. By contrast, in the UK no more than 10 % of the Retail Prices Index (RPI) represents the basic accomodation costs. And the RPI claims to include housing in a way that the Consumer Prices Index does not !  For the last year rents were just under 7 % of the index. But another 3 % covers Mortgage Interest Payments. (Despite these payments being more the result of bank base rate decisions than the housing market).

Flawed UK indices

Alcohol however, is 6 %  of the RPI index. See table 4.12  in the document here. There is something seriously wrong with how we have weighted the UK inflation indices.   In 2009 Alcohol was 6.3 % and Rent was only  6.2 % !  And alcohol always had been bigger in the RPI. When it was originally set up in the 1940s, a professor at the London School of Economics wrote to the Times and asked rhetorically – what sort of family spends more money on alcohol than on clothes. ?

This problem with the weights is a major reason why many have considered that the UK indices have underestimated inflation here for decades. If there is too much alcohol in the index there must be too little of other things. We have got the weightings wrong.

Putting the indices right.

The Statistics Authority has now told the Office for National Statistics (ONS) that owner-occupied housing costs must now be factored into the Consumer Prices Index. The ONS are looking at 2 different ways of calculating it, called ‘ Net Acquisitions’ and ‘Rental Equivalence’ . In the chart below they show how each of these supposedly different calculations would have registered inflation during a period now universally seen as when we suffered the biggest house price bubble in our history (The blue line).  And the indices under consideration are shown in green and purple in this complicated chart below.

This chart comes from a bigger paper that can be found here. It is evident that neither of these measures would have alerted us to the inflationary problem except for right at the end of the boom when the  original CPI index was indicating a problem anyway. These calculations are therefore not fit for purpose, if that purpose is detecting and heading off inflationary problems. From what we have shown above, it will also be evident that the problem is that housing clearly does not have sufficient weight in the current indices and that the weights need to be revised. We think it is reasonable to expect that housing should have a weight in the index not very different from that seen in the German and American indices.

We will be making this point to the ONS. We will also suggest that the development of indices based on specific regions and localities of the UK, and specific household types, could help a process of revision of the weighting systems that would make the national figures more representative. We have earlier emphasized the importance of having regional figures if housing inflation is to be proportionately recognised – and promptly so. The ONS has been told to look into the issue of regional indices by the Statistics Authority.

When the BBC anounce the monthly inflation figures they usually say that the RPI includes housing costs to explain the difference from the CPI. From what we have shown above it can be seen that that is an over-simplification. In giving the figures a coherence they do not otherwise have, it borders on misrepresentation. Sky tends to just say the RPI is a wider index. However, last month the BBC did at last refrain from their usual practice of bringing on a banker to tell us that inflation is not as important as it might appear. (To justify low interest rates to savers). Last month the BBC even had the TUC on to comment on the figures.

The poor media coverage of inflation in recent years is also due to the sort of consultancies the media rely on. One of the most high profile is Capital Economics, founded and led by Roger Bootle who came from the old Midland Bank.  Bootle, always tends to minimise the prospects of inflation, which in the UK has been above the government target of 2 % for most of the last four years. What is almost never mentioned is that Bootle published a book called The Death of Inflation. Nowhere in the book does Bootle address the questions of how we detect inflation. Indeed, he published this book in 1996 just before UK house prices took off again under New Labour and became a serious form of British inflation that squeezed the middle of the British income spectrum, to borrow Ed Miliband’s term, and created the Two Income Trap to borrow an American term. Whether Bootle is responsible for the poor media attention to inflation or just reflects it must be left to history to judge.

Andrew Lydon

LWM Regional Prosperity & Inflation Project

Alternative inflation- the globalisation of inflation

Inflation across the Eurozone at 2.2 % is now above the European Central Bank target of   ‘2 % or less’.  In the big European economies it is now approaching 2 % with little hope that it is going fall back any time soon. The current figures for the big EU countries this report tends to follow are:

Germany         1.7 %

France            1.8 %

Italy               1.9 %

What has been becoming clear in the last few months is that other than in the USA and the UK, the current worldwide price inflation is now being seen as the problem to be addressed.

In the UK our inflation has been above our critical level of the 2 % target (plus 1 % ) for most of the last 4 years. The latest figures being 3.7 % on the least generous measure (Consumer Price Index) and 4.8 % on the more generous measure (Retail Prices Index). Figures  more than double the current US inflation figure of  1.5 %

A global problem now

And across the world, it is being recognised that this sort of inflation can only be addressed locally – economy by economy. The European Central Bank has now begun to react to the problem, but the leading Asian economies had already done so. China, India and now South Korea have recently introduced measures to contain the price rises.

Onions are the most recent food stuff of which India has banned the export. Such export bans have been a regular feature of the last couple of years. They are now  looking to lift their ban on the export of cotton to Pakistan, in exchange for Pakistan allowing onion exports to northern India. This sort of regional ‘bilateralism’ was what globalisation was supposed to stop.

Most of these price crises have been provoked by floods, droughts and other events stemming from  ecological/population dynamics. It is what we at LWM have called the Global Price Shift.  Even the floods in Queensland Australia seem to have driven up the price of coal and steel in Asia.

An explosive problem

The price shift is now also making itself felt in world politics with the current revolts in Tunisia and Algeria sparked by their government’s failure to hold down food prices. The fuel price rise in Pakistan has led to the Zardari government losing its majority.

Just what level of inflation becomes politically explosive depends upon how stretched the household finances already were in particular economies during the recent global boom. However, it seems that price rises more modest that those of past decades produce a more significant response than they used to. And there is no reason to think that this will not hold good in the more advanced countries too. There is also no reason to assume that this inflation is just going to fizzle out any time soon.

Driven by ‘globalisation’

That the price shift is under-appreciated in the Anglo-Saxon countries may have something to do with them trying to forget their old prophet – Alan Greenspan. He was warning that something like this was coming in his memoirs of 2007.

In the final chapter he outlines how in the globalisation that mainly occured while he led the US central bank, bringing China into world markets had made manufactured goods so cheap that it had squeezed inflation dramatically. He predicted that this was now coming to an end, and even suggested that globalisation would now begin to drive up prices for goods, food and energy around the world. At the time many central banks, including the Bank of England also echoed this warning. This is now turning out to be one of the few Greenspan prophesies to come to fruition.

This would make globalisation just too expensive.  And it going into a kind of reverse becomes the cheaper option, as can be seen when so many countries resort to  banning exports.

The solution begins at home

In the UK the main reason inflation has stayed so high, is that the problems were not properly recognised when they were emerging some years ago. And one of the main reasons for this has been that we have had such poor quality inflation indices. We reported last month how the UK Statistics Authority has ordered our ONS statisticians to address some long overdue improvements. The Authority has told them to go into the issue of regionalised inflation indices along the lines used in most other major economies and which we have been lobbying for since 2006.

Scotland merits having an index of its own. But in the interests of  getting things moving we would suggest that some indices based on ‘ad-hoc’ super-regions  would be a good start for England. Just 3 indices for England would be such a starting point, with the regions being grouped something like as shown here for inflation  purposes. But which regions were initially grouped together would need to be the subject of consultation with interests in the regions.

We have begun paying particular attention to the media coverage of the inflation problem. The public BBC has a particularly influencial role and have had particular attention. The main evening news programmes did feature comment from the leader of the TUC. This is unusual and welcome, as too much of the BBC coverage in the past has been dominated by bankers seeking to justify continued low interest rates. Hopefully the quality of the coverage of the inflation problem is improving.

To be covered in future reports

In coming months, our monthly reports will include spotlights being shone on how the cost of owner-occupied housing should be included in a proper inflation index as well as highlighting the unusual role of alcohol in the UK inflation indices.

With this month’s inflation figures we are seeing the Bank of England coming under attack for how badly counter-inflation policy is going. Our critique of the monetary policy system can be found in our  November  report.

Andrew Lydon

LWM Regional Prosperity & Inflation Project


Alternative inflation report – how other countries are doing it better

Our last couple of reports have focussed on the unexpected wave of inflation that is being felt around the world despite us supposedly being involved in a global downturn, and how the UK is particularly feeling it.

This month we are focussing on how other major G7 countries measure inflation as it impacts upon different parts of their countries and social structure. Something we want to see done here in the UK and are currently pressing the Statistics Authority for.

The USA gives out the most comprehensive set of inflation figures every month. This month the CPI-U, representing the broad urban population is  1.1 % .  But it also gives a CPI-W figure for ‘urban wage earners and clerical workers’ which this month is  1.4  %. But they don’t just give a national figure for each of these populations. They also give a CPI-U figure and a CPI-W figure for most of their big cities and the US census regions.

This has made the USA very sensitive to emerging inflation and has prompted the USA to be one of the world’s lowest inflation economies.  A worker in Chicago and the Mid-West knows whether his prices are rising in line with the official figures for his area, in a way that someone working in Birmingham England cannot because we only get a couple of different national disembodied averages for our official figures. So if the figures are out of proportion with what workers are finding in the American cities the figures can be challenged in a way they cannot be in the UK.

Although the monthly figures can vary quite a bit across the US, in the longer run their system keeps them in line. On the basis of the index running since the early 1980s, price rises for Chicago have risen less than for the US as a whole.  But only by a couple of per cent over what is now a whole generation. (USA average currently at 218 and Chicago at 213)  Prices for the workers have risen less than for the broader population – 214 for the US and 206 for Chicago workers, despite the current monthly figure being higher.

France also has an index that is intended to represent the total population aswell as  one that represents what is called an urban household  headed by a worker. It is particularly used for adjusting the minimum wage.  For August inflation was 1.4 % on both indices. Until the 1960s France used to only calculate an inflation rate for Paris and say that that was the French inflation rate. But they continued to maintain a Paris index until about the time the Euro was launched.

The French have been able to keep inflation for these worker households in step with that of the overall population. Below you will see the figures showing how prices have shifted in the first years of the Euro before any of the dramas of recent years intrude into the story.  In the table below 100 = 1998.

The figures are very much in step, as were the US figures because a more sensitive approach to tackling inflation tends to  follow from such detailed indexing.

The Italian indices for registering inflation are today pretty much identical to the French system. In August the inflation rate for the broadest population was 1.6 %, as it was for workers’ families. Unfortunately the Italians no longer translate their full monthly release.  It can be deciphered with only a basic French/Italian at the link here.

Table 4. of the Italian monthly release gives inflation rates for most of Italy’s big cities. This is most probably because  inflation indices were first started by the big industrial cities like Milan, and led by Milan. It was Mussolini who brought in the national index, almost certainly because it would justify lower pay settlements for workers in the industrial cities than the local city inflation rate would justify.

So a basic local figure does since act as a double check on the system – as it does in the USA.  Milan is Birmingham’s twin city and inflation there is slightly less than the Italian national norm being currently registered as 1.4 %.

German inflation for September is 1.0 %. Germany now only does one figure for the broad population of Germany. But most of the large federal states produce a figure for their own local population since the 1960s.  The State of Hesse, which is home to Birmingham’s twin city of Frankfurt has an inflation rate which is slightly lower at 0.7 %. We also have a twin city in the former East Germany which is Leipzig in the state of Saxony. The Saxon inflation rate is currently higher at 1.1 %

However, Germans have lost trust in German price statistics since Germany went into the Euro in 1999. This is because the German government abandoned its more extensive range of monthly inflation indices. Former West Germany had produced price indices based on 4 household types across Germany. They were as follows

The old West Germany ran such sub-headings since the 1960s when the managerial household was added to complete this set. When the West  took over East Germany in 1990 they began to run a parallel set of sub-indices for there. By 1999 when these sub-indices were abolished along with the D-Mark, they were holding the inflation rates for all these households remarkably in step in both the former East and West Germany. Based on 1995 being 100, the family households in both East and West were at 105 on the index, and the ‘All household’ indices and the pensioner households were on 106.

Germany abandoned these baskets when they entered the Euro. They said this was because there were not enough 4 member families to justify it. But had they assembled a more contemporary basket for families they might have maintained  the confidence that there had been in the old system.

From what has been shown here of how other G7 countries register inflation, you will be able to appreciate the basis of what we are proposing to the Statistical Authorities should become our framework of inflation indices.

Our last monthly report can be found here.  This month the UK figures have not fallen like most of the G7 figures have, as can be seen in the list below. The UK remains the country with the highest rate in this group, and has long been in this position.

Andrew Lydon

Regional Prosperity & Inflation Project

This month’s comparable inflation figures are currently

United Kingdom                3.1 %

Canada                           1.8  %

France                           1.7  %

Italy                               1.6  %

USA                                1.1  %

Germany                         1.0 %

Japan                            -0.9 %

Alternative inflation report – or what Mervyn King does not mention

Our Retail Prices Index (RPI) stands at 4.8 % and the index the Bank of England targets – called the Consumer Price Index stands at 3.1 %. They are higher than the targeted indices of any of our G7 competitors.  Almost double the next one down the list.

France                 1.7  %

Germany            1.2 %

USA                      1.2

Italy                     1. 0 %

Canada                 1.0%     (June  figure)

Japan                 -0.7 %    ( June  figure)

This report was originally just intended to keep the fact that this country has usually got the highest inflation figure in the G7, despite us having inflation indices that understate inflation, in the minds of various people we are lobbying.  But we now use it to outline how our ideas about inflation are developing. As such we hope it is more interesting than the Bank of England’s quarterly Inflation Report, which concentrates on optimistic predictions that are almost always wrong in recent years.

We have consistently warned that food and energy prices are straining living standards across the world. Of course food is of far less weight than in the inflation baskets of the developed world than it was in the past , or than it is the developing world. It averages about 40% in some of the most populous Islamic countries, like Pakistan and Egypt for example, where social instability could have global consequences.

So although the fires and floods that are becoming a regular summer occurrence on the Europe-Asia landmass put pressure on our standard of living, it is many times more serious elsewhere.   

For example, Russia has again banned wheat exports which is already driving prices up outside that country. Stopping  farmers exporting is one of the world’s traditional ways of holding down prices in producer countries’ home markets.

Rather than inflation in the UK being the result of a series of one-off occurances as Mervyn King insists,  perhaps we are heading for a new world-wide era of Austerity. With inflation rather than deflation being the main global issue. What we have been promoting as our Regional Prosperity and Inflation Framework, might well have to serve as an ‘Austerity & Inflation’ Framework.

We have also recently published our outline of what an inflation index for our home region would actually tell us.

Using the most authoritative housing affordability figures for the regions – produced by the Halifax – we can see how housing prices, which should have weight in any proper inflation indices, demonstrate how a clear ‘Two Income Trap’ emerged under New Labour. It seems it now takes 2 incomes to buy a home that could be bought on one income when New Labour came to power. This fits with our long standing argument that two incomes are now required to run a household that could be run on one income a generation ago. But interestingly, the movement in house prices occurred as early as the Lawson boom of the late 1980s as far as the West Midlands is concerned. But real house prices fell back under John Major, before becoming the national phenomenon since. This is explained further on this project’s main webpage and it can also be accessed here.

This erosion in real wages did not help manufacturing jobs survive in the West Midlands, even in the later years of the Thatcher government. Had Nigel Lawson had an authoritative index for inflation in regions like ours, perhaps he would have heeded the warning it would have been sounding – and have restrained his inflationary boom before it became a national disaster. Labour would not then have slid down the same slipway. But that would have been a very different Britain, which might today have more manufacturing and less household debt than it has actually come to have.

We have recently set out a path for reform to the Statistics Authority’s review of inflation, and we are grateful to the Trust that has regularly supported us in this area of work  in recent years – The Andrew Wainwright Reform Trust.

Our report last month challenged the notion that we have been struggling with a global deflation in any way comparable to the 1930s and can be found here.

Andrew Lydon

LWM Regional Prosperity & Inflation Project


A trend set in – Alternative inflation report for June

Our Retail Prices Index (RPI) stands at 5 % and the index the Bank of England targets – called the Consumer Price Index stands at 3.2 %. They are higher than the targeted indices of any of our G7 competitors.

France                 1.5  %

Italy                     1. 3 %

Canada                1.4  %   ( May  figure)

USA                      1.1  %

Germany            0.9 %

Japan                 -0.9 %    ( May  figure)

It looks like a trend has now firmly set in for us to be the G7  inflationary economy. Besides undermining our living standards this will help overseas companies keep their grip on our home markets. In the post war decades, we could always rely on the Italians and often the French to have higher inflation than us.

Much has been said about how various world leaders have saved us from a repeat of the 1930s. But no repeat of the 1930s deflation has ever been on the cards in the last few years.  The price of food and energy had fallen after the First World War and had no tendency towards rising until the rearmament began in the late 1930s. This can be seen in the graph below of the UK cost of living index, the vast majority of which was food and energy purchases.

By contrast there has been an under-lying upwards push on food and energy prices through out most of the last couple of crisis years. Recently we have seen demonstrations against  the price increases across India and as drought grips important grain producing regions around Russia  the upwards pressure on food prices is set to continue.

Commentators have been talking about how close we have been to deflation. But  in the UK particularly, this is indicative of the poor standard of economics in this country. Briefings from the Bank of England in particular, often seem to suggest that  inflation does not just mean that prices are rising. They imply that inflation only becomes something when wage claims begin to be put forward on the assumption that prices will go on rising.

We have recently set out how we think inflation and especially house prices have undermined the standard of living in our West Midlands home region which you can go to by clicking here.

Last month’s edition of this report included an examination of how the UK lost track of its own people’s living standards in the 1980s,  and how conservatives are still politically blighted by it.  It can be accessed here

Andrew Lydon

LWM        Regional Prosperity & Inflation Project

Alternative inflation report – Living standards in the West Midlands

None of our current inflation indices register the unique house price inflation the UK has had. Had they done so in any manner comparable to Germany and the US,  there would have been far higher inflation registered across the UK under New Labour. Looking at housing  affordability indices gives us some idea of the seriousness of the real inflation being missed and an index that shows this up region by region would show a revealing story for the West Midlands.

Our house prices have changed so rapidly over the last generation in the UK  that we have adopted the practice of measuring affordability in terms of the number of years annual income one would need to buy a house. One of the most comprehensive set of figures for house prices across the regions has been compiled by the old Halifax Building Society (and its successors) since 1983.

The following chart shows their figures for 1983 for some of the ‘southern’ English regions including London.

The West Country, East Anglia and the East and West Midlands are included. I have left out the others so that the images are not too crowded. In the early years of  the Thatcher government, it is still the people of the West Midlands that find it easiest to buy their houses. The average house can be bought on the 3 times average male earnings that were the traditional lending standard. (But with a deposite also necessary).  It was London and especially the West Country where this was becoming a stretch. The full Halifax figures can be found here.

 

However look what had happened by September 1992 when the UK got kicked out of the Exchange Rate Mechanism.

It is now the West Midlands whose buying power has been erroded. The region is already on the way to being one where  a household, which not long before could be run on one income, could no longer. We were falling into what is in the USA refered to as the ‘Two Income Trap’. In the General Election of a few months before, the WM conurbation had for the first time  become the southern most sub-region to mainly vote  Labour.  The Conservative government lost here a whole Parliament before they lost the UK as  a  whole.  And even in 2010 the conurbation did not respond to David Cameron.

Under the John Major government house prices fell back and incomes slowly grew so that Labour did not actually inherit the Two Income Trap in 1997. But when the housing market peaked in 2007 we were all trapped. On the basis of traditional 3 times income lending, the whole of the UK was in the trap.  The average house required 5.86 times the average full time male wage . 2 incomes.  Most of the regions we have been particuarly looking at were slightly above that. The West Midlands had tasted this earlier than the others, but we were actually all in the same boat/trap now.How this situation will now evolve is difficult to say, but some regions will show a trend before others. Maybe it could even be that the West Midlands will show it up first. But for government to head off another wrong turn we will need to reform the way we measure inflation so that we have region by region figures that pick up housing inflation as part of the basket with other sensitive items such as food and energy.

Andrew Lydon

Lessons from the Thatcher/Reagan years – an Alternative inflation report

The new coalition government have inherited the highest inflation rate in the G7. Higher even than China. And as they consider any sort of increase in VAT to pay off national debt they need to think about how they keep their finger on the national pulse as the country faces these challenges to their living standards.

Immediately on coming to power, Margaret Thatcher’s chancellor raised VAT, much against her initial reluctance. And this was the start of a process that lead to the popular perception that living standards had been badly hit under Margaret Thatcher. And for no lasting gain.

This chart shows the official story of living standards in the UK. We are supposed to be about twice as prosperous as we were in the 1970s.

The hard times under Thatcher and Major are merely slight setbacks that we quickly recovered from. But if people really bought that story, why did the Tories, even with the mess that Gordon Brown made of our economy, face such reluctance to allow them an overall majority in 2010? Birmingham and the West Midlands are a striking example of this reluctance.

Contrast this blight on the Tories to what happened in the US under Ronald Reagan whose heirs have never been blighted by Reaganism. Two George Bushes stand as evidence of this.

This chart shows that Reagan’s legacy was because living standards in the US were hit more under Nixon and Carter, and actually stabilised under Reagan. This chart and this outcome were in large part because they had good quality inflation and prosperity indicators.

When Reagan came to power, the US had long had monthly inflation figures for most big cities and even had regional indices. However, in the first years of Reagan they improved their inflation indices by revising the way housing was measured. This allowed them to apply counter-inflationary policies while having their finger on the pulse of the people’s economic life.

On behalf of LWM I am currently pressing the UK Statistics Authority to look at what can be learned from the system of US inflation indices.

History often seems to repeat itself, first time as tragedy, second time as farce. A government presiding over austerity that looses track of prices as they are felt across the country, would be a farce none of us would want to see. The coalition needs to allow the best inflation indices to be put in place and allow it the priority it deserves.

Andrew Lydon

Regional Prosperity & Inflation Project