Thursday, October 20, 2016

BBC News - Inflation means inflation, but who wins?

Sooner or later, the downward pressure on the pound since the UK's vote to leave the European Union is expected to lead to upward pressure on the prices of most things we buy.
Supermarket
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Image captionTesco's recent spat with Unilever has highlighted fears of a new inflationary surge
Brexit, as we have been told by the prime minister, means Brexit. But inflation also means inflation.
The pound has repeatedly lurched lower in value since the outcome of the June referendum and is now the world's worst performing currency of 2016. Against the dollar, it is now worth 20% less than it was before the vote, and that fall is unlikely to be reversed in a hurry.
The basic laws of economics dictate that this will translate into higher inflation: foreign firms exporting goods to the UK will continue to charge the same amount for them in euros, dollars or whatever, but they will cost more in sterling when the prices are converted.
That goes for finished goods, such as food and drink or clothing, but also for raw materials that are processed here, such as car parts. Global supply chains mean that more than 50% of the components in cars "made in the UK" are actually sourced from overseas.
Petrol, too, is likely to go up in price, because oil is priced in dollars.
So higher rates of inflation are a foregone conclusion. The question is, how much higher? What will the consequences be? And will anyone gain from this, or are we all set to lose out?

Lessons of history

One estimate of the extent of possible price rises has come from the former boss of Northern Foods, Lord Haskins, who told the BBC that he expected to see food price increases running at an annual rate of 5% by this time next year.
He was speaking in response to supermarket chain Tesco's recent spat with Unilever, which was trying to pass on its higher costs incurred because of sterling's weakness - though that dispute has since been resolved.
The cost of food is an important factor in calculating the overall inflation rate, the Consumer Prices Index (CPI), which is published on a monthly basis by the Office for National Statistics (ONS).
Some economists are predicting that the CPI could hit 3% by the end of 2017.
If overall inflation did climb to the level predicted by Lord Haskins, it could be nudging close to the highest rate in a decade. In recent years, there have been two peaks in CPI inflation, in September 2008 and September 2011. In both those months, it reached 5.2%.
By historical standards, however, that pales in comparison with the levels reached in the 1970s, when the UK experienced several years of double-digit inflation. The worst year was 1975, during which prices went up by an eye-watering 24.2%.
We are unlikely to return to those days. But of course, back then, the industrial climate was different, trade unions were stronger and large groups of workers were able to obtain pay rises to match, despite government attempts to impose wage restraint.
Nowadays, substantial pay rises are harder to come by, so a lower level of inflation can have a bigger effect on living standards.

Interest rates

If we have to spend more money on goods while our salaries fail to keep pace with rising prices, then we are all likely to suffer to some degree.
It will certainly make Bank of England governor Mark Carney's job harder, because the Bank has a 2% inflation target.
If it goes above that, it increases the likelihood that he will raise interest rates to combat it, thus making life harder for those who owe money, such as on mortgages.
If you have a student loan, the level of interest charged is linked to a slightly different measure of inflation, the Retail Prices Index (RPI), and is not subject to the Bank of England's decisions.
A prolonged period of inflation would reduce the value of people's debts, making them easier to pay off.
If inflation were to stay at that 5.2% level for 12 years, your debt would, in effect, be worth only half as much in real terms, because you would still owe the same number of pounds, but each of those pounds would have declined in value.
The outcome is similarly mixed for pensioners. In their favour, state pensions are guaranteed by what is known as the "triple lock". In other words, they rise each year by the inflation rate, average earnings or 2.5%, whichever is the highest.
However, private pensions are not similarly protected. And to make matters worse, retired people are likely to spend a higher proportion of their income on food and fuel, which are particularly affected by the pound's big devaluation.
Pensioners are also more likely to be living off income from savings, and savers are clobbered by high inflation. Just as inflation erodes the value of debts, it also reduces the spending power of money kept in bank accounts, because prices go up and your money doesn't, especially with the ultra-low interest rates paid by banks at the moment.
So there is no unalloyed benefit from higher inflation for anyone. But some will feel more pain than others, while borrowers will certainly benefit more than savers.

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