For the vast majority of 2017, the rate of inflation in the UK continued to rise at a disproportionate rate to earnings. This not only squeezed disposable income levels nationwide, but it also encouraged the Bank of England (BoE) to initiate the first interest rate hike in more than a decade to combat this.
With headline inflation having dipped to 3% in December, however, there’s genuine hope that a further decline will ease the burden placed on British households and enable to BoE to realign its monetary policy for the good of the economy.
In this post, we’ll look at this in further detail, and ask why a depreciating rate of inflation may be good news for the long-term health of the economic climate in the UK.
The Fall of Core CPI and Headline Inflation
Beyond this headline news, it was also revealed that core CPI inflation in the UK had fallen during the final financial quarter of 2017. This measure is often used by economists as it excludes transitory and temporary price volatility in the case of specific commodities, including energy products, groceries and food items.
According to Richard Perry at Hantec Markets, the recent decline in core CPI inflation came as something as a surprise, while arguably suggesting that the cost of living would continue to fall consistently throughout 2018. “Core CPI inflation fell back to 2.5% this morning amidst speculation that UK inflation has now peaked in this cycle”, he said. “Having spent the past four months hovering around 2.7%, core inflation has now fallen to a six month low and delivered tangible benefits to consumers in the UK.”
The most recent reports confirmed that headline inflation had also depreciated by the same rate, closing on 3% at the end of 2017. According to Perry, if this is a precursor for a sustained decline in the headline inflation rate during the next two financial quarters, the national economy could well benefit from a more prosperous and less volatile performance over time.
“If inflation continues to tick lower in the coming months, it will further reduce pressure on the Bank of England to hike rates in order to combat the excessive levels of inflation. The BoE can then focus on potential tightening of monetary policy for positive economic growth reasons. This is a positive for the UK economy going forward.”
The Last Word – Can a Minimal Rate of Inflation be Sustained?
This is an important point, as the economy can only thrive if policy makers are able to prioritise organic and sustainable growth. If headline and core CPI inflation remain at a proportionate rate to earnings, however, the interest rate can be capped accordingly to benefit households and suit the prevailing, macroeconomic climate.
If not, policy makers are constantly required to use one measure as a way of combating another, which means that the economy remains in a volatile state that is incapable of experience sustained growth.
With this in mind, the question that remains is whether or not a decline rate of inflation can be sustained? The short answer to this appears to be yes, as the inflation rate is typically influenced by cyclical trends that drive identifiable peaks and troughs.
So, with the headline rate of inflation having appeared to peak above the 3% in June last year, the market is now braced for a trough and this could well establish a foundation for the UK economy to grow as 2018 progresses.