All the same, it seems very likely that, as economic data accumulate in the course of 2017, the BoE will come under pressure to shift its monetary stance. That pressure will be all the greater for the precipitate action it took in easing policy last August. Annual consumer price (CPI) inflation has been ticking higher but none of the figures so far released reflect the spate of price increases that UK retailers have warned will be posted in the early weeks of this year. So far, the recorded rise in the annual rate of CPI inflation has been attributable to the unwinding of effects from last year’s fall in the oil price but probably very little to cost rises associated with sterling’s slide since the latter part of 2015. Yet, already, that inflation rate has risen from its low point of a negative 0.1% in October 2015 to 1.6% in the latest statistics, for December 2016. Further unwinding of oil price effects may contribute about 0.4 of a percentage point to the CPI in the months ahead but a much larger impact is likely to be felt from sterling-related effects. Overall, it would be no surprise if CPI inflation reached 3% before the end of this year.
Some MPC members have indicated that, if that were to happen, they would ‘look through’ one-off currency effects. They would not necessarily feel obliged to tighten monetary policy. However, they gave these assurances when they may still have believed the BoE’s worries about future growth were justified. They may feel less certain about that now. The reasons to expect a Brexit-related economic downturn in 2017 are no stronger than they were for such a downturn in the latter months of 2016. UK businesses’ investment intentions may be strengthening slightly while the weaker pound should eventually help net exports. Perhaps if UK consumers decided to save more, household spending would weaken but there are very few signs they will do that. They do not appear to share the policymaking class’s horror of Brexit. Admittedly, it will be extremely difficult to judge to what extent, if any, higher inflation will become embedded in the economy. The labour supply is likely to be extremely variable and highly unpredictable over the next few years, rendering the response of wages to higher prices even less easy to forecast than usual. Some EU workers may return home fearing the effects of Brexit on their lives in the UK, while others may rush in before the shutters come down, banking on the likelihood they will be allowed to stay after the UK leaves the EU. In these circumstances, the best indicator of labour market tightness may well be the behaviour of wages. The MPC will need to be alert to any signs that wage increases are ticking higher, if it is to avoid giving the appearance of ‘falling behind the curve’.
The BoE is not the only central bank facing a challenge from rising inflation. The US Federal Reserve is in the relatively favourable position of meeting its employment objective. While Fed policymakers are, doubtless, sensitive to the damage that even an historically small increase in interest rates might do to borrowers’ finances, they are in a position to claim that their eight-year strategy since the financial crisis has worked. They can declare victory, even if outside observers might well believe that, with different policies, the same result might have been achieved much more quickly and at less cost. However that may be, FOMC members are able to focus on rising inflation pressures without thereby seeming to abandon their full employment goal. Probably, those pressures will be less strong in the US economy in 2017 than in the other advanced nations. The USA is not going to experience a currency-related inflation component. There is still some oil price unwinding, though; this, perhaps, will boost annual CPI inflation by up to 0.3 of a percentage point over the next three monthly reports. Thereafter, while currency effects may be absent, wage pressures are likely to be stronger in the USA than elsewhere. A reliable indicator of US wage pressures is not really available; the various BLS employment cost indices fluctuate too widely to be useful. Monthly average hourly earnings data at least have the benefit of timeliness; this series registered a 2.5% annual rise in January, in line with the 2016 average which marked a pick-up from earlier years. This trend could well result in a further leg up for US CPI inflation in 2017H2.
15 | ADMISI - The Ghost In The Machine | January/February 2017
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