Worried about Inflation
Monday, May 31, 2010 at 07:45PM
Gold Prices in Other
Inflation OECD 01 June 2010.jpg

The inflation/deflation debate continues at a merry pace with both sets of supporters banging the drum equally as loud as the other. So we decided to pop over to the UK for this 'take' on the current situation by Stephanie Flanders of the BBC.

Inflation is well above target - and well above where the Bank of England and others expected it to be not very long ago. That much we know. The big question is: should we worry?

Two different events this week seemed to suggest we should. The Organisation for Economic Co-operation and Development said in its latest economic outlook that the UK authorities, almost alone among the OECD, needed to be wary of losing their credibility on inflation. It even gave the Bank of England some free advice - to raise the bank rate to 3.5% by the end of 2011, starting "no later than" the last three months of this year.

The remarks were interesting because (a) the OECD doesn't usually give such specific advice to anyone, let alone to central banks; and (b) the text of OECD reports is always circulated well in advance to the countries concerned. This means someone at the Treasury was happy to see all this appear in print.

The other event was the release of the third estimate for UK economic growth in the first quarter of 2010. As expected, this was revised up slightly, to 0.3%. But the stand-out statistic on GDP wasn't the real figure - it was the nominal. These figures showed nominal GDP - the cash value of all transactions across the economy - growing by 2.1% during the quarter, or an annual rate of more than 8%.

The implication is that the GDP deflator - a measure of economy-wide inflation - rose by more than 1.7% in that period. That is partly due to the rise in VAT in January - but not entirely. Excluding taxes, prices across the economy rose 1.2% on the quarter, up from 1% in the fourth quarter of 2009 and 0.8% in the quarter before that.

The simplest explanation of these figures is also the most favourable to the Bank of England: quantitative easing worked. Just as the Monetary Policy Committee intended, pumping all that liquidity into the economy seems to have helped maintain nominal spending across the economy in the second half of 2009, even while the economy and the supply of bank credit were continuing to shrink.

But the Bank of England can't make the path out of this crisis an easy one. And it can't reimburse us for all that we have lost. Quite the opposite: it has to make sure that all of us - collectively - take a hit.

To read the article in full please click here.

Have a good one.

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