The Bank of England is switching to expect ever lower inflation

There is much to consider in the world of inflation and inflation trends in the UK but let me first open with something which is eating away at the credibility of official UK statistics. From the UK Statistics Authority on the 22nd of January.

I note that an indication of the substance of Wednesday’s Labour Market Statistics release was shared by the Department for Work and Pensions (DWP) with up to 300 people, through a social media network ahead of the publication of the report by someone who is not approved to have pre-release access to the statistics.

This is a serious matter as nothing is more corrosive to financial markets than a lack of trust and once lost trust is a very difficult thing to regain. The structure of the UK system is that there is a list of people such as the Prime Minister and the Governor of the Bank of England who receive important statistics 24 hours early so they can be prepared. However the numbers have changed and now include Special Advisers or Spads. Somewhere on this road there seem to have been more than a few incidents of some traders being more equal than others or an “early wire”.

I raise this because this morning there have been suspicions of such action from those trading the UK Pound. Now here is the thing this still matters if they are wrong because the situation is that such complaints are believed. Of course it is even worse if they are true.

Official inflation trends

Yesterday we learned what the German Bundesbank thinks of the prospects for inflation in 2016. From Bloomberg.

Consumer-price growth in Europe’s largest economy will now average approximately 0.25 percent in 2016, down from a December prediction of 1.1 percent, the Frankfurt-based central bank said in its monthly bulletin published on Monday. For 2017, the forecast was cut to 1.75 percent from 2 percent.

This matters as whilst the 2016 change is eye-catching it is the 2017 one that really matters as at the policy horizon inflation is below target. So even the Bundesbank is hinting at a policy easing and we can expect the European Central Bank to do the same as a lower oil price and higher Euro will do the same to it. Oh but we do get an implied critique of official forecasts and forward Guidance as the ones which have just been slashed were only compiled in December.

Much of the analysis above applies to the UK as well and we saw a hint of that yesterday as one Bank of England member folded like a deck chair. From Reuters and the emphasis is mine.

Speaking to the Wall Street Journal, McCafferty, who dropped his lone call to hike interest rates earlier this month, said the central bank was not “out of ammunition” if it needed to fight a renewed downturn by cutting interest rates or restarting its bond-buying programme.

Will down be the new up?

This is particularly awkward for Ian McCafferty who has now twice started series of votes for an interest-rate rise before collapsing like a pack of cards. He is living up to his old City nickname of “as expected” which as you will be aware becomes a nickname when it invariably is not true.

Today’s inflation data

This links into the current driver of inflationary trends pretty much directly. From the Office for National Statistics.

The all items CPI annual rate is 0.3%, up from 0.2% in December…… The largest upward contribution to the change in the 12- month rate came from prices for petrol, which dropped by 1.9%, compared with a larger fall of 7.3% between the same 2 months a year ago. A similar, though less pronounced, effect was seen for diesel, with prices falling by 4.0%, compared with a fall of 6.0% a year ago;

Yes it was a follow-on effect of lower oil prices although we see that they in fact fell more slowly than last year rather than rose. So it was the oil price which is in the news again today after its recent strong rally in percentage terms albeit of course on a much lower price. The OPEC news as I type this is summarised by Neil Hume of the Financial Times as follows.

In summary then Russia and Saudi Arabia are willing to freeze production at or near record levels. Fantastic news for glutted market.

We will see how that plays out but there is another way of looking at today’s inflation numbers.

The all items CPI is 99.5, down from 100.3 in December.

If you want something that looks even more disinflationary then there is this sector.

The CPI all goods index is 98.5, down from 99.3 in December…….The CPI all goods index annual rate is -1.5%

The other side of the coin is services inflation which is at 2.3% although even there the underlying index fell from 101.5 to 100.7.

Number Crunching

It is rarely explained that one of the reasons that UK inflation has gone to a lower trajectory is that the definition was “improved”. Rather than a complex explanation let me show you the difference between the old official measure of inflation and the new one.

The all items CPI annual rate is 0.3%…..The annual rate for RPIX, the all items RPI excluding mortgage interest payments (MIPs) index, is 1.4%,

As you can see there is a 1.1% difference which if you look at the economic world right now makes an enormous difference. If you want precision well here it is.

The difference between the CPI and RPI unrounded annual rates in January 2016 was -1.02 percentage points,

This is an  important issue as it drives at how we account for housing costs and in particular owner-occupied housing costs which are a particularly important issue in the UK. You see the official CPI measure does the equivalent of sticking its head in the sand on the issue. Whilst there are problems with the RPI I would point out that even the new version is moving away from CPI.

The all items RPIJ annual rate is 0.7%, up from 0.5% last month.

At least some of the “deflation” paranoia exhibited in so many places over the past year or so is due to a lazy ignorance about a type of stealthflation style change to how it is measured.

House prices

Here is the nub of UK inflation measurement where there is plenty of inflation to be seen which many will think is exactly why official statisticians ignore it.

UK house prices increased by 6.7% in the year to December 2015, down from 7.7% in the year to November 2015.

Not quite as fast as last month but still around treble the rise in real wages we expect. So a factor in affordability continues to decline which is of course why first time buyers need so much “Help”. The Resolution Foundation has looked at this from another direction today.

The new official effort is to use rental costs and then neuter them as much as they can this leads CPIH to be 0.6%. Mind you it has been at best a shambles.

CPIH is currently undergoing re-assessment


I noted this in today’s numbers which highlighted a different pattern.

There was a 0.2% decrease in average house prices in Scotland (down from a 1.2% increase in the year to November 2015).

If we look deeper we see signs of a decoupling from the pattern in the rest of the UK.

the index for Scotland in December 2015 (226.7) is 6.8% below the record level witnessed in March 2015 (243.2) – Scotland prices are now 1.7% below the pre-economic downturn peak of June 2008 (230.6)

Is this the impact of the falling oil price on Aberdeen or something deeper?


The underlying inflation picture continues apace. Good prices have been driven lower and have sucked the official inflation measure down to around zero. On the other side of the coin services inflation ( CPI 2.3% or RPI 2.4%) continues to be over the target. For us to remain here oil and commodity prices need to continue to fall which is possible if you look at OPEC but the large falls are behind us.

So you would think that central banks would be adjusting for higher inflation at the policy horizon. But in fact they are doing the reverse as we see the Bundesbank in effect giving Mario Draghi licence to ease again and Ian McCafferty the supposed hawk at the Bank of England talking of interest-rate cuts. Forward Guidance anyone?

Meanwhile under the radar something is happening to Scottish house prices at a time where it is hard to think of monetary policy being more supportive.










16 thoughts on “The Bank of England is switching to expect ever lower inflation

  1. Hi Shaun

    great article as always. I’ve noticed that petrol prices have reached a floor. Probably due to the double taxation from our beloved government.

    Is panic starting to hit the streets of london about houseprices yet? After HTB being increased to 40%, is there much more they can do? So thankful I left four years ago.


    • Hi Anteos and thank you

      As to petrol and diesel prices just under 75 pence per litre is tax. So if we assume a price of around £1 per litre then there is little scope for substantial falls from here in the UK.

      I do not know about panic but I was sent some details of a place being sold in the new Battersea Power Station development. The rumour was that the whole project had been bought by buyers from SE Asia and if they did they have profits on the currency move. If they only paid a deposit however there could easily be a fair old loss. I expect more of that over time in such developments as quite a few places have seen their currency plunge.

  2. Hi Shaun

    The subtle hint in your penultimate para says it all. If the BOE were following the script concerning the policy horizon, they would have to say that, on balance, the index would be going up next January as the falls this and last year disappear; the oil price is unlikely to decline as much from hereon in! In that case they should be actively considering IR increases, particularly in the light of the stubborn services inflation, and McCafferty is right. But they are not; and the reason? Because IR increases would collapse the Ponzi!

    Frankly, and as we have seen before, inflation could be at 4-5% and IRs would still not be increased for the same reason. The lyrics may change but the melody stays the same.

    One day I suspect the markets will take over and forward guidance will finally be exposed for what it is.

    • Hi Bob J

      We find ourselves discussing one of my earliest themes which is that the central banks will make a mess of tightening policy. What I did not know then was how great their enthusiasm would be for loosening it! Of course that just makes it all worse and policies like QE do look like to infinity and beyond when we buy some of the 2068 stock.

      As to Ian McCafferty he seems lost in his own land of confusion.

  3. Hello Shaun,

    As the Long Crisis is still going on , as per IR at 0.5% and talk of it going lower …

    As Bob J posted , IR never moved when inflation is high / low/ or somewhere else in a far off galaxy ….

    Forward guidance is respected these days like Prudence is …..

    These talking heads , are , well , on a road to nowhere …..


    • Hi Forbin

      I agree that what little credibility the Bank of England had left has disappeared. Meanwhile there have been quite wild swings on the oil price today as the rumour mill pushed Brent Crude Oil up to US $35.44 but a more sober reality after a lack of actual output cuts has seen it fall to US $32.30 and down on the day as I type this. Also we seem to be back to having a gap ( US $3) between it and WTI.

  4. Long depressions and the subsequent currency wars and protectionism tend to end with a major war. With what is happening in Syria with five major external players all with different geopolitical ambitions, things are much more dangerous and much closer to major hostilities than most people realize. If wise heads making measured proportionate responses don’t prevail (and for some of the players, their recent histories are not on their side) then I think all current financial predictions and forward guidance will prove to be irreverent where they have been overtaken by external events.

    • Rods,
      Apologies to our host, because this is not a political blog, but you do realise the author of that article is former(?) US intelligence, and unlikely to be in any way objective…..

      • Yes I know that, but at times politics and economics are linked in ways that one has profound effects on the other and that is why the focus is on the effects this would have on predictions and forward guidance. Where would the oil price and other commodity prices go in such circumstances?

        • ‘Long depressions and the subsequent currency wars and protectionism tend to end with a major war.’

          I remember Steve Keen saying in 2008 that
          ‘the last time we had a major debt deflation,it ended after ten years with a world war.

          Syria is a mess.The migrant crisis has put pressures on the EU that have seen them turn their backs on Schengen…never thought I’d see the day

  5. Hi SDhaun, on your comments about th ehigher Euro I have been pondering the question that the ECB and EZ have become victims of Mario and his “anything it takes” speech. I believe markets have taken him at his word and “know” that he will do “whatever is necessary” to stimulate the EZ economy. That being the case, why not buy Euro denominated investments in the EZ? Mario will ensure you get a good return which of course boosts demand for Euros so much that it outstrips his QE driving the Euro ever higher, talk about hoisted by your own petard!

    On the BOE as I posted last November/December it was already too late then to head off inflation. Predict the beginnings of a shocker at end 2017 – the oil price can’t fall much further and certainly can’t go negative……can it?

    • Hi Noo2

      As to the oil price is did fall in single digits in mid-January in some of the shale fields in the US and back in the day when it was first discovered people didn’t know what to do with it but I don’t think it was ever given away.

      As to Mario and the ECB I think you make a good point that the investment flows have buoyed the value of the Euro. A switch for the UK £ where it was previously buoyed but now sees it going elsewhere. Mario’s problem is backing it all up in March although the fact that the Bundesbank’s Weidmann rotates out of a vote will help.

  6. Is there any thought how the the Lower or negative interest rates will affect the ability of pension funds ability to fulfille their obligations.

    in the UK could this lead to more zombie companies as they are forces to pump more money into pension funds

    Do the effects of lower interest rates on pension funds get worse and is there a point were their obligations will just have to be written off

    • Excellent post.

      There was a discussion on here some weeks back about zombie companies existing just to fund their pension obligations.Iirc,the conclusion was that there already are some.

      Ultimately,ZIRP has damaged the pension industries ability to function in anything resembling a normal manner.

    • Hi The optimist and welcome to my corner of the web

      We have discussed the pension funds issue on various ocassions. On an individual level Andy Zarse posted a pensions illustration where one of the annual rates of return was -3%, how does that work? In fact long-term contracts have real trouble with negative interest-rates as for example the concept of a present value blows up.

  7. Shaun,

    My continued thanks for your work in exposing the glaring omissions from the inflation data.Every time we discuss these issues,I can’t believe the poltical class have gotten away with what they have.

    22 years to save a deposit!!!!!!

    People should be angrier but the reality is that most don’t understand how they’ve been shafted

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