Today sees the latest data on UK inflation but let us first look at things from a different perspective. On Friday the Bank of England released the results of its survey on inflation expectations which had some intriguing results.
Question 1: Asked to give the current rate of inflation, respondents gave a median answer of 2.2%, compared to 2.0% in February.
Question 2a: Median expectations of the rate of inflation over the coming year were 2.0%, compared with 1.8% in February.
As you can see there is at first some brief satisfaction for the Bank of England as inflation is considered to be pretty much on target. However there is a problem with that because it means that the official target of CPI or Consumer Price Index is a long way away from where people think inflation actually is. For newer readers this has been one of my arguments for the Retail Price Index or RPI which has been above 1% mostly as opposed to being around 0%. It has fitted inflation expectations much more accurately than CPI for some years now. Officially the “experts” know better than us plebs although even official sources have to accept that the “experts” in this area have built up a track record of being wrong. For example the disastrous decision to have a main inflation measure which leaves out owner-occupied housing costs, and then a decade later to use rents as a proxy shortly followed by abandoning the discredited rental series.
A crunch coming?
There appear to be two trains on the same line in financial markets right now. Let me illustrate first by returning to the inflation expectations survey.
Asked about expectations of inflation in the longer term, say in five years’ time, respondents gave a median answer of 3.4%, compared to 2.9% in February.
As you can see higher inflation is expected and in particular a rising trend. As to the exact numbers they are of course not known but we do have higher inflation expectations which sit oddly with this morning’s market news.
#gilt yields fall to all time lows of 1.18%
As you can see the yield is already below what ordinary people think inflation is and looks set to fall even further below it. There is a question about the efficient operation of markets here because real yields look likely to be very negative. In other words the flight to yield driven by the Bank of Japan and the ECB is bending and twisting markets and may yet break them.
Oh and such moves are usually described as a flight to safety by the media but of course a week or so ahead of the Brexit referendum? Anyway those who claimed this would lead to higher Gilt yields and challenged my view on Twitter must be busy as they have vanished.
Even as I am typing this the drum beat is going on relentlessly and a bass line has joined it.
*U.K. 30-YEAR GILT YIELD DROPS BELOW 2% FOR FIRST TIME
There are two main issues here. Firstly it also reminded me that I have been following the Gilt market for 30 years now ( Eeek…) and for perspective I recall the long Gilt yielding over 15%. Secondly this represents an utter failure for the Forward Guidance of Bank of England Governor Mark Carney as it was the summer of 2014 when he hinted at interest-rate rises.
It could happen sooner than markets currently expect.
Two years later we see he completely misled remortgagors and businesses as not only has Bank Rate not changed but market interest-rates as I have explained above have fallen substantially. Maybe one day our supine media will grill him about it.
Also should the UK ever wish to renew some infrastructure it could do so as cheaply as it ever has or at least for as long as we have kept records.
The problems that the UK official statisticians have with the UK housing sector are highlighted by the fact we have a new improved house price series starting today. Also we see an obvious issue if I show you the numbers.
UK average house prices have increased by 8.2% in the year to April 2016 (down from 8.5% in the year to March 2016), continuing the strong growth seen since the end of 2013……The average UK house price was £209,000 in April 2016. This is £16,000 higher than in April 2015, and £1,300 higher than last month.
Now let us compare that to the official consumer inflation numbers.
The Consumer Prices Index (CPI) rose by 0.3% in the year to May 2016, unchanged from April.
Even when they try to put some measure of housing inflation into the numbers via using rents you can see that the numbers look like they are from a different universe to the one we actually live in.
In May 2016, the 12-month rate (the rate at which prices increased between May 2015 and May 2016) for CPIH stood at 0.7%, up from 0.6% in April 2016…..The OOH component annual rate is 2.3%, up from 2.2% last month.
So they registered a small uptick but are way behind house prices unless 2.3% is the new 8.2%, whereas if you put them in then inflation would be more like 1.5% and a lot of the paranoia would disappear. This is because we would then be much closer to the inflation target of 2% per annum.
It is also true that if you look you can see signs of an inflationary pick-up. For example here.
The CPI all services index annual rate is 2.6%, up from 2.4% last month.
When you look wider and consider that they represent around 80% of our economy it is a warning of sorts. When goods prices end the current disinflationary phase then our whole trajectory will change.
Actually if you look there are signs of inflation in the rental sector as with a hat tip to @youngvulgarian I note you get this for £800 per month in Nunhead South East London which is not far from where I grew up.
Fabulous studio flat, presented to a high standard, offering a splendid and airy studio room, along with a large en suite shower room and long balcony. No kitchen as such, just a hot plate small fridge and a microwave.
So “no kitchen as such” goes into my financial lexicon for these times as I note that couples would have to pay £1000 per month.
There is much to consider as we note that inflation expectations and bond yields are two trains running in opposite directions on the same track. The exact path of inflation is unknown as we do not know what oil prices will do but we do know they will have to continue to fall for inflation to stay where it is. Also as someone who questions official inflation measures I would point out that even the UK 30 year Gilt is now offering no real yield at all on current expectations and looks set to go negative. Something will have to break here and on that subject let us remind ourselves of the problems caused for all long-term business models such as pensions and annuities by all of this. It is another nail in the coffin for UK final salary or defined benefit pension schemes which remember are valued via the yields which are falling as the deficits go on an apparent journey to infinity and beyond. That should be raised at the BHS parliamentary enquiry but of course there is no opportunity for grandstanding provided and it also requires an understanding of the issues.
Meanwhile we have been expecting this.
German 10y Bund powering lower -0.03 now ( @creditmacro )