Taken from Bloomberg:
U.K. inflation eased for the first time in six months in December, which may be the start of a slowdown that will ease pressure on consumers who spent 2017 being squeezed by rising prices.
The decline took the rate to 3 percent from 3.1 percent in November, which was the fastest in more than five years. The data came a day after Bank of England policy maker Silvana Tenreyro said there are upside risks to the sluggish productivity growth that’s plagued the economy in recent years. That would have implications for both domestic price pressures and interest rates.
The Bank of England currently forecasts that inflation will ease through this year, to reach about 2.4 percent at the end of 2018. But the headline figure is only part of the story, and what matters for rate setters is the development of price pressures coming from low unemployment and a squeeze on supply from weak productivity.
If output per hour picks up, it could raise the so-called speed limit of the economy, or the rate it could grow without stoking domestic inflation. Concern about overheating was the main reason the BOE’s Monetary Policy Committee raised its key interest rate in November for the first time in a decade and said a couple of more hikes would be needed over the next three years.
But on Monday, policy maker Tenreyro offered an optimistic view on productivity, with potentially dovish implications for interest rates. While Brexit is currently suppressing investment, she also noted that the “risks to productivity are skewed to the upside.” A stronger performance would affect the policy rate path, she said.
According to Martin Beck, an economist at Oxford Economics, it’s a “shift from the supply-pessimism that underpinned the MPC’s hike” in November. Oxford doesn’t expect any BOE tightening this year, a view shared by economists at Bloomberg Economics. That’s in contrast to the median prediction of economists for another rate increase in late 2018.
What our economists say:
“U.K. inflation has begun a march downward and the risk to inflation expectations is passing –- that will give the Bank of England room to breathe. Though annual inflation is falling, that says more about price changes a year ago than now – don’t expect it to drive a big jump in quarterly real consumption growth.”
Part of the reason for an inflation slowdown this year will be because the effect of the pound’s depreciation following the 2016 Brexit referendum is fading. At the same time, measures that better capture domestic prices remain subdued. Services inflation slowed to 2.5 percent in December, the weakest in nine months.
If inflation is at a turning point, that will bring some relief to households who have seen their pay fail to keep up with price increases. Household consumption growth weakened in 2017 and economists surveyed by Bloomberg see another slowdown this year.
The outlook for inflation will also be affected by the pound, which has strengthened recently, though remains well below its pre-Brexit level.
“Clearly the pound’s weakness over the past 15 months has not been helpful” to the BOE, ex-Goldman Sachs economist Jim O’Neill said on Bloomberg Television. “If it were to rise further, it would make their job easier and importantly, it might help to indirectly stop this squeeze on the U.K. consumer.”
