Bank of England Rate v Inflation

Bank of England Rate v Inflation.

Over the last few weeks we have written about inflation increasing on the back of national living wage increases followed next year by food, goods and service price increases.

National living wage increases impact by pushing wages up overall, as the person that was on let’s say £1 per hour above the old national minimum wage, expects the same margin on the increased living wage.  In turn, this will push employers costs up which, ultimately those increases are passed onto consumers.

The weak pound has already caused some firms that import raw materials, goods and services to increase prices by as much as 20%.  Next year, those increased import costs will filter through to output goods and services that are manufactured and come to market early next year.  Again, business costs are up, so prices that the consumer pays will rise.

The Governor of the Bank of England, Mark Carney, has suggested that he is comfortable with allowing some inflation in the economy.  We suggest, he is “caught between a rock and a hard place”. 

• Increasing interest rates will put pressure on businesses with loans and finance to pay. It may discourage business from further investment as they seek to protect their position.
• Increasing interest rates will put pressure on home owners with already high mortgage repayments and possibly put UK into a property recession and people in negative equity
• By slowing inflation it puts pressure on property prices to hold or fall meaning that Government’s profits in the Help to Buy deposit scheme will be much lower - in short they like inflation, they want property values to rise
• Increasing interest rates will strengthen the £ meaning British exports become more expensive overseas i.e. we export less and import more, not good for British business
• The £ strengthening will also mean that the profits of the big FTSE 100 companies will fall because they trade a lot overseas and when converting e.g. $ or € earnings/profit to sterling will mean lower profits, meaning lower corporate taxes paid in UK i.e. they like a weak £
• Increasing interest rates to slow inflation down will mean that the Government does not devalue its own public sector debt. Higher inflation means public debt devalues without ever repaying it.

Comment

Whilst the Bank of England and Mark Carney are talking a good game when it comes to managing inflation and potentially lowering interest rates, you can now see why they are unlikely to increase interest rates and will live with higher inflation for the time being.  It happened in the late 1970s and 1980s, it will happen again.  Inflation is coming, interest rates increases are not.  It's all an inflation/interest rate smokescreen.