HS2 should be scrapped before more money is wasted

Today has brought two of our themes into focus as we have an opportunity to see a real world example of fiscal expansionism and rampant inflation in action. So let us get straight to it via the Financial Times.

The cost of Britain’s new HS2 high-speed rail project could rise to as much as £106bn, according to an official government review which gives only lukewarm backing to the project. The review, seen by the Financial Times, says there is “considerable risk” that the scheme’s price will rise as much as 20 per cent beyond the £81-£88bn range set out in a report by the current HS2 chairman Allan Cook last September.

Both our themes are in play here because if we look back to July 17th 2017 on here we raise fears of a type of pork barrel politics and inflation.

But critics say the £56bn project will damage the environment and is too expensive.

So it is on its way to being twice as expensive and at the current rate of increase that may not take too long. Back in 2017 I expressed my concerns about the danger of this.

Actually more and more doubts are emerging over the final cost. From The Independent. The HS2’s first phase between London and Birmingham will cost almost £48bn, according to expert analysis commissioned by the Department for Transport (DfT).

Even what seemed eye-watering numbers back then are being exceeded. Also there is the issue of what we might get from it.

That highlights two problems. If we start with costs then if this report is accurate we will have the most expensive railway in the world at £1.25 billion per mile on the first bit from Euston to Old Oak Common. The next is that by 2026 if everything is on time we will only have a new railway to Birmingham which is way short of the “Northern Powerhouse” promises. Assuming that the bits to Leeds and Manchester are eventually built will it all be out of date by then?

The latter sentence echoes as I read this bit in the FT.

and then to Leeds and Manchester by 2040, seven years later than the original target.

That is rather a toxic combination of costs ballooning and any benefits receding into the distance. At that speed it could be obsolete before it ever opens. We of course knew that this would happen because back in July 2017 we got an official denial and we know what that means!

Mr Grayling told the BBC’s Today programme that the high-speed rail network will be “on time, on budget” and the government has “a clear idea of what it will cost”.

Where do we stand now?

The review seems to have lost the faith.

The review led by Doug Oakervee, a former chairman of HS2, also recommends that work on phase 2b of the project from the West Midlands to Manchester and Leeds be paused for six months for a study into whether it could comprise a mix of conventional and high speed lines instead. “On balance”, it says that ministers should proceed with the 250mph railway, which would stretch from London’s Euston station to Birmingham in its first phase and then to Leeds and Manchester by 2040, seven years later than the original target. But although the final draft of the review recommends that the project should proceed, this is subject to “a number of qualifications,” it says.

In the coded language of an official review ( after all those doing the review are usually chosen to give the answer required) this is really rather damning. The idea of a 250 mph railway seems attractive but it is also true that there are doubts about whether it can achieve what is promised.

 It points out that no other high speed line in the world runs 18 trains per hour and recommends reducing it to 14.

Also if this was a football match the crowd would be chanting “You don’t know what you’re doing” in the background.

There are also concerns over the project’s management with more scrutiny needed from the Treasury, and its Infrastructure Projects Authority, as well as the Department for Transport. “The review has not seen convincing evidence that HS2 Ltd, especially the phase one construction team, have the level of control and management of the construction normally associated with major projects,” it says.

So we have costs out of control, the results seeming less and less likely all of course oiled by incompetent management in some sort of replay of the UK’s problems in the 1970s.

Meanwhile I notice @hancocktom on twitter has provided an international perspective.

Using the upper bound of the World Bank’s estimate of costs per km, in China a line of the same length would cost £3.7bn at market exchange rates……..(thats for the 225km phase 1, phase 2 would cost about $8.5bn in China).

Smart Meters

This is another area of waste. In fact the relative level of waste is even higher. The principle sounds good but offers so little over merely checking your bill if you have concerns. Then sadly it gets worse. From the BBC last September.

Nearly a third of all energy companies fitting smart meters are still installing old technology…….

However, eight companies still installing first generation smart meters say the network is not reliable enough to switch customers on to.

In fact the first range of Smart Meters were really rather dumb.

The second generation of meters is supposed to be able to connect remotely to a national network, which should make switching supplier possible, for the first time for many customers.

Aircraft Carriers

I follow various military blogs and what is clear from them is that not only were the 2 large aircraft carriers for the Royal Navy very expensive they bring a lot of extra costs with them. The obvious ones are the aircraft which are very expensive but there are others around the escorting ships. It is an area where HM Treasury should hold its head in shame because not only were the aircraft carriers more expensive due to the way it delayed the project, the carriers will be escorted by “£1 billion” destroyers because in doing the same to the Type 45 destroyer project it raised the costs there too. We could probably have had 8 destroyers rather than the 6 we ended up with for the same total.

It is a familiar theme of grand designs which overrun and then end up not reaching their goal as we may never sail them with a full complement of aircraft.

Comment

Let me start with the inflation issue as it is unlikely to get much of an airing elsewhere. Public spending has a big problem with inflation as they are usually valued on what is spent not what you get and an example is the “£1 billion destroyer”. But there are many other examples simply because by its nature ( free education. free NHS) there is no price for us to measure. Also there is often no measure of output. Thus a £106 billion HS2 sounds initially better than a £56 billion one when in fact it shows rampant inflation! If you look through the public-sector you see that the inflation measures are frankly like waving a finger in the air.

Next comes a theme of the times which are the calls for more fiscal policy with central bankers in the van. It is historically cheap ( the UK 50 year Gilt yield is a mere 1.08%) leading to support for their suggestions. However the examples today show cases where not only is money wasted but via the mechanism in the previous paragraph it is claimed to be real growth when it is not. This is exhibited in a reply to the FT by Saccharine.

Public infrastructure projects are not like a general consumer building an extension to their house.
“Overspend” doesn’t mean the money vanishes into oblivion like so many would have you think; it is wealth that cycles back into the economy through the salaries of those working on it.

What could go wrong?

Even worse there is this as the FT puts on its establishment trousers.

Despite the caveats, the report warns there are no alternative “shovel-ready” projects ready and that, with £8bn spent so far, it should proceed.

Perhaps they are fans of Arcade Fire.

If I could have it back
All the time that we wasted
I’d only waste it again
If I could have it back
You know I would love to waste it again
Waste it again and again and again

There is a move in the UK to send more public spending to the North which links at least in theory with HS2 but we have been there before as Yes Prime Minister satirised back in the 1980s. Here is the Chief off the Defence Staff on the army being based in the North.

I suppose other ranks, junior officers, but you can’t ask senior officers to live permanently in the north! The wives wouldn’t stand for it for one thing.

What about Harrods? What about Wimbledon? Ascot? Henley? The Army and Navy Club? I mean civilisation, generally! It’s just not on!

RIP Derek Fowlds

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The good news from lower UK inflation ( think real wages) may not last

Today brings the various UK inflation numbers into focus as we get the updates for consumer, producer and house prices. Already though the Bank of England has given its view on the general outlook.

Second, the most likely outlook is a further period of subdued growth, and hence a disinflationary backdrop
of a persistent – albeit modest – output gap.

That is from Michael Saunders who is giving a speech in Northern Ireland and we see him backing up the previously expressed view of UK inflation falling towards 1.25% in the early part of this year. It is sad though that he still uses the “output gap” that has worked so poorly even some ex-central bankers are being forced to admit it has been a failure. Here is the former Vice-President of the ECB ( European Central Bank) Vitor Constancio.

In “FED listens” events, they found that:..”there is more “slack” than the Fed had thought — more people who could still come into the labour force, particularly in poorer areas”. I am sure the same is true in Europe. Forget output gaps

If only those still in power would see the light and accept reality!

There is an irony in all of this as we note that whilst the Bank of England expects lower inflation it is presently trying to raise it and Micheal Saunders has another go.

Fourth, against this backdrop, it probably will be appropriate to maintain an expansionary monetary policy
stance and possibly to cut rates further, in order to reduce risks of a sustained undershoot of the 2% inflation
target. With limited monetary policy space, risk management considerations favour a relatively prompt and aggressive response to downside risks at present.

This is via the impact of their words on the value of the UK Pound £ and the way a lower value ( mostly via the role of the US Dollar in setting commodity prices) tends to raise subsequent inflation. You may note that the bi-polar view of monetary policy space continues to be in play as he joins Mark Carney’s statement that it is limited from last Wednesday which morphed into the equivalent of a Bank Rate cut of 2.5% as quickly as Thursday. What a difference a day made!

twenty four little hours
Brought the sun and the flowers where there use to be rain ( Dinah Washington )

If we complete the points made by Michael Saunders we see something of an obsession with output gap theory.

First, with softer global growth and high Brexit uncertainty, the UK economy has remained sluggish. The
slowdown has created a modest output gap, and there are signs that the labour market is turning.

Also something perhaps even sillier.

Third, the neutral level of interest rates may have fallen further over the last year or two, both in the UK and
externally.

Or, of course, it may not.

Consumer Inflation

The backdrop was worrying because US consumer inflation had risen yesterday and Euro area inflation had risen last week and that is before we get to this.

Also, Zimbabwe’s annual inflation rate (the one that is officially concealed) rose to 521% in December. ( Joseph Cotterill)

But the numbers were good possibly showing that a little knowledge is a dangerous thing.

The Consumer Prices Index (CPI) 12-month rate was 1.3% in December 2019, down from 1.5% in November 2019.

There were two main factors at play and I wonder if any of you spotted this one?

Restaurants and hotels, where prices for overnight hotel accommodation fell by 7.5% between November and December 2019, compared with a rise of 0.9% between November and December 2018;

Also the next one may have affects elsewhere because the last time we saw a burst of this as we saw retail sales rise in response ( thank you ladies) which is against the present consensus.

Clothing and footwear, where the largest individual downward contributions came from women’s casual jackets and cardigans, where prices fell between November and December 2019 but rose between the same two months in 2018. There were also small individual downward contributions from formal trousers and formal skirts

Also if we continue to look wider we see a possible impact from the slow down in car sales.

There was also a smaller downward contribution from the purchase of vehicles where prices overall were little changed in 2019 but increased by 0.7% in 2018.

Let us move on but not without noting that the impact of the UK Pound £ is for once zero compared to the Euro as we have the same inflation rate.

Euro area annual inflation is expected to be 1.3% in December 2019,

What Happens Next?

There is still a slight downwards push but the impetus has gone.

The growth rate of prices for materials and fuels used in the manufacturing process was negative 0.1% on the year to December 2019, up from negative 1.9% in November 2019.

Indeed if we switch to output prices we see that there are ongoing albeit small rises in play.

The headline rate of output inflation for goods leaving the factory gate was 0.9% on the year to December 2019, up from 0.5% in November 2019.

If we look to future influences we know that 70% of the input number comes from the £ and the oil price. As we stand at US $64.40 for a barrel of Brent Crude that is where it roughly was in mid-December so maybe not much influence. With the Bank of England engaging in open mouth operations against the £ it may come into play.

House Prices

There was a worrying change here.

UK average house prices increased by 2.2% over the year to November 2019, up from 1.3% in October 2019……Average house prices increased over the year in England to £251,000 (1.7%), Wales to £173,000 (7.8%), Scotland to £155,000 (3.5%) and Northern Ireland to £140,000 (4.0%).

This adds a little credibility to the Halifax 4% reading for December although we await the official December data. As to the breakdown we have observed parts of the Midlands leading the line in recent times.

The annual increase in England was driven by the West Midlands and North West…..The lowest annual growth rate was in the East of England (negative 0.7%) followed by London (positive 0.2%).

Although that is for just England so we should also look wider and whilst it looks an anomaly there was this.

House price growth in Wales increased by 7.8% over the year to November 2019, up from 3.6% in October 2019, with the average house price in Wales at £173,000.

Comment

There is some much needed good news in today’s report for real wage growth as we see inflation dip. However we need context because if we switch to the UK’s longest running measure of inflation there is a different story in play.

The all items RPI annual rate is 2.2%, unchanged from last month.

The difference neatly illustrates my major theme in this area.

Other housing components, which increased the RPI 12-month rate relative to the CPIH 12-month rate by 0.06 percentage points between November and December 2019. The effect came mainly from house depreciation.

As you can see our official statisticians are desperate to make everyone look at their widely ignored favourite measure called CPIH which I will cover in a moment. But for now we see that past house prices via depreciation are exerting an upwards pull on the RPI and November’s number suggests this may continue. Most will understand that for many house prices are a big deal but the fact that they usually pull inflation higher means the establishment has launched an increasingly desperate campaign to ignore them.

If we now cover the official CPIH measure it indulges in a fleet of fantasy by assuming that owners pay themselves rent and then includes this fantasy in its inflation reading. Even worse there have been problems in measuring rents so it may well be a fantasy squared should such a thing exist. Anyway the effort to reduce the inflation reading has backfired this month as CPIH is above CPI due to this.

In December 2019, the largest upward contribution to the CPIH 12-month inflation rate came from housing and household services. The division has provided the largest upward contribution since November 2018.

Oh well…..

The inflation problem is only in the minds of central bankers

Yesterday we looked at the trend towards negative interest-rates and today we can link this into the issue of inflation. So let me open with this morning’s release from Swiss Statistics.

The consumer price index (CPI) remained stable in December 2019 compared with the previous month, remaining at 101.7 points (December 2015 = 100). Inflation was +0.2% compared with the same month of the previous year. The average annual inflation reached +0.4% in 2019.These are the results of the Federal Statistical Office (FSO).

The basic situation is not only that there is little or no inflation but that there has been very little since 2015. Actually if we switch to the Euro area measure called CPI in the UK we see that it picks up even less.

In December 2019, the Swiss Harmonised Index of Consumer Prices (HICP) stood at 101.17 points
(base 2015=100). This corresponds to a rate of change of +0.2% compared with the previous month
and of –0.1% compared with the same month of the previous year.

Negative Interest-Rates

There is a nice bit of timing here in that the situation changed back in 2015 on the 15th to be precise and I am sure many of you still recall it.

The Swiss National Bank (SNB) is discontinuing the minimum exchange rate of CHF 1.20 per euro. At the same time, it is lowering the interest rate on sight deposit account balances that exceed a given exemption threshold by 0.5 percentage points, to −0.75%.

If we look at this in inflation terms then the implied mantra suggested by Ben Bernanke yesterday would be that Switzerland would have seen some whereas it has not. In fact the (nearly) 5 years since then have been remarkable for their lack of inflation.

There is a secondary issue here related to the exchange rate which is that the negative interest-rate was supposed to weaken it. That is a main route as to how it is supposed to raise inflation but we find that we are nearly back where we began. What I mean by that is the exchange-rate referred to above is 1.084 compared to the Euro. So the Swiss tried to import inflation but have not succeeded and awkwardly for fans of negative interest-rates part of the issue is that the ECB ( European Central Bank) joined the party reminding me of a point I made just under 2 years ago on the 9th of January 2018.

For all the fire and fury ( sorry) there remains a simple underlying point which is that if one currency declines falls or devalues then others have to rise. That is especially awkward for central banks as they attempt to explain how trying to manipulate a zero-sum game brings overall benefits.

The Low Inflation Issue

Let me now switch to another Swiss based organisation the Bank for International Settlements  or BIS. This is often known as the central bankers central bank and I think we learn a lot from just the first sentence.

Inflation in advanced economies (AEs) continues to be subdued, remaining below central banks’ target
in spite of aggressive and persistent monetary policy accommodation over a prolonged period.

As we find so often this begs more than a few questions. For a start why is nobody wondering why all this effort is not wprking as intended? The related issue is then why they are persisting with something that is not working? The Eagles had a view on this.

They stab it with their steely knives
But they just can’t kill the beast

We then get quite a swerve.

To escape the low inflation trap, we argue that, as suggested by Jean-Claude Trichet, governments
and social partners put in place “consensus packages” that include a fiscal policy that supports demand
and a series of ad hoc nominal wage increases over several years.

Actually there are two large swerves here. The first is the switch away from the monetary policies which have been applied on an ever larger scale each time with the promise that this time they will work. Next is a pretty breathtaking switch to advocacy of fiscal policy by the very same Jean-Claude Trichet who was involved in the application of exactly the reverse in places like Greece during his tenure at the ECB.

Their plan is to simply add to the control freakery.

As political economy conditions evolve, this role should be progressively substituted by rebalancing the macro
policy mix with a more expansionary fiscal policy. More importantly, social partners and governments
control an extremely powerful lever, ie the setting of wages at least in the public sector and potentially
in the private sector, to re-anchor inflation expectations near 2%.

The theory was that technocratic central bankers would aim for inflation targets set by elected politicians. Now they want to tell the politicians what to so all just to hit an inflation target that was chosen merely because it seemed right at the time. Next they want wages to rise at this arbitrary rate too! The ordinary worker will get a wage rise of 2% in this environment so that prices can rise by 2% as well. It is the economics equivalent of the Orwellian statements of the novel 1984

Indeed they even think that they can tell employers what to do.

Finally, in a full employment context,
employers have an incentive to implement wage increases to keep their best performing employees
and, given that nominal labour costs of all employers would increase in parallel, they would able to raise
prices in line with the increase of their wage bills with limited risk of losing clients

Ah “full employment” the concept which is in practical terms meaningless as we discussed only yesterday.

Also as someone who studied the “social contracts” or what revealingly were called “wage and price spirals” in the UK the BIS presents in its paper a rose tinted version of the past. Some might say misleading. In the meantime as the economy has changed I would say that they would be even less likely to work.

Putting this another way the Euro area inflation numbers from earlier showed something the ordinary person will dislike but central bankers will cheer.

Looking at the main components of euro area inflation, food, alcohol & tobacco is expected to have the highest
annual rate in December (2.0%, compared with 1.9% in November),

I would send the central bankers out to explain to food shoppers how this is in fact the nirvana of “price stability” as for new readers that is what they call inflation of 2% per annum. We would likely get another ” I cannot eat an I-Pad” moment.

Comment

Let me now bring in some issues which change things substantially and let me open with something that has got FT Alphaville spinning itself into quicksand.

As far as most people are concerned, there is more than enough inflation. Cœuré noted in his speech that most households think the average rate in the eurozone between 2004 and last year has been 9 per cent (in fact it was 1.6 per cent). That’s partly down to higher housing costs (which are not wholly included in central banks’ measurement of inflation).

That last sentence is really rather desperate as it nods to the official FT view of inflation which is in quite a mess on the issue of housing inflation. Actually the things which tend to go up ( house prices) are excluded from the Euro area measure of inflation. There was a plan to include them but that turned out to be an attempt simply to waste time ( about 3 years as it happened). Why? Well they would rather tell you that this is a wealth effect.

House prices, as measured by the House Price Index, rose by 4.2% in both the euro area and the EU in the
second quarter of 2019 compared with the same quarter of the previous year.

Looking at the situation we see that a sort of Holy Grail has developed – the 2% per annum inflation target – with little or no backing. After all its use was then followed by the credit crunch which non central bankers will consider to be a rather devastating critique. One road out of this is to raise the inflation target even higher to 3%, 4% or more, or so we are told.

There are two main issues with this of which the first is that if you cannot hit the 2% target then 3% or 4% seems pointless. But to my mind the bigger one is that in an era of lower numbers why be King Canute when instead one can learn and adapt. I would either lower the inflation target and/or put house prices in it so that they better reflect the ordinary experience. The reason they do not go down this road is explained by a four letter word, debt. Or as the Eagles put it.

Mirrors on the ceiling
The pink champagne on ice
And she said: “We are all just prisoners here
Of our own device”

India has an economic growth problem

As 2019 has developed we have been noting the changes in the economic trajectory of India. Back on October 4th we noted this from the Reserve Bank of India as it made its 5th interest-rate cut in 2019.

The MPC also decided to continue with an accommodative stance as long as it is necessary to revive growth, while ensuring that inflation remains within the target.

This was in response to this.

On the domestic front, growth in gross domestic product (GDP) slumped to 5.0 per cent in Q1:2019-20, extending a sequential deceleration to the fifth consecutive quarter.

For India that was a slow growth rate for what we would call the second quarter as they work in fiscal years.

What about now?

Friday brought more bad news for the Indian economy as this from its statistics office highlights.

GDP at Constant (2011-12) Prices in Q2 of 2019-20 is estimated at `35.99 lakh crore, as against `34.43 lakh crore in Q2 of 2018-19, showing a growth rate of 4.5 percent. Quarterly GVA (Basic Price) at Constant (2011-2012) Prices for Q2 of 2019-20 is estimated at `33.16 lakh crore,
as against `31.79 lakh crore in Q2 of 2018-19, showing a growth rate of 4.3 percent over the corresponding quarter of previous year.

The areas which did better than the average are shown below.

‘Trade, Hotels, Transport, Communication and Services related to Broadcasting’ ‘Financial, Real Estate and Professional Services’ and ‘Public Administration,
Defence and Other Services’.

The first two however slowed in the year before leaving us noting that the state supported the economy as you can see below.

Quarterly GVA at Basic Prices for Q2 2019-20 from this sector grew by 11.6 percent as compared to growth of 8.6 percent in Q2 2018-19. The key indicator of this sector namely, Union Government Revenue Expenditure net of Interest Payments excluding Subsidies, grew by 33.9
percent during Q2 of 2019-20 as compared to 22.2 percent in Q2 of 2018-19.

Regular readers will not be surprised what the weakest category was.

Quarterly GVA at Basic Prices for Q2 2019-20 from ‘Manufacturing’ sector grew by (-)1.0
percent as compared to growth of 6.9 percent in Q2 2018-19.

Also those who use electricity use as a signal will be troubled.

The key indicator of this sector, namely, IIP of Electricity registered growth rate of 0.4 percent during Q2 of 2019-20 as compared to 7.5 percent in Q2 of 2018-19.

In terms of structure the economy is 31.3% investment and 56.3% consumption. The investment element is no great surprise in a fast growing economy but it has been dipping in relative terms. The main replacement has been government consumption which was 11.9% a year ago and is 13.1% now as we get another hint of a fiscal boost.

Switching to a perennial problem for India which is its trade deficit we see that it was 3.8% of GDP in the third quarter of this year. That is a little better but there is a catch which is that it has happened via falling imports which were 26.9% of GDP a year ago as opposed to 24% now. So another potential sign of an internal economic slowing.

We can move on by noting that this time last year the GDP growth rate was 7% and that The Hindu reported it like this.

Growth in the gross domestic product (GDP) in the July-September quarter hit a 25-quarter low of 4.5%, the government announced on Friday.

The lowest GDP growth in six years and three months comes as Parliament has been holding day-long discussions on the economic slowdown, with Union Finance Minister Nirmala Sitharaman assuring the Rajya Sabha that the country is not in a recession and may not ever be in one.

4.5% growth is a recession?

Unemployment

The numbers are rather delayed am I afraid leaving us wondering what has happened since.

Unemployment Rate (UR) in current weekly status in urban areas for all ages has been estimated as 9.3% during January-March 2019 as compared to 9.8% during April- June 2018.

Inflation

This has been picking up as the Economic Times reports below.

Inflation touched 4.62%, according to the data released by the statistics office on Wednesday, compared to 3.99% in the month of September. Inflation, as measured by the Consumer Price Index (CPI), was 3.38% in October last year.

Sadly for India’s consumers and especially the poor much of the inflation is in food  prices as inflation here was 7.9%. Vegetables were 26.1% more expensive than a year before and it would seem the humble onion which is a big deal in India is at the heart of it. From India Today.

Households and restaurants in India are reeling under pressure as onion prices have surged exponentially  across the country. A kilo of onion is retailing at Rs 90-100 in most Indian states, peaking at Rs 120-130 per kilo in major cities like Kolkata, Chennai, Mumbai, Odisha, and Pune.

For those wondering about any inflation in pork prices then the answer is maybe.The meat and fish category rose at an annual rate of 9.75%.

Manufacturing

We noted in the GDP numbers that there was a fall but this seems to have sped up at the end of the quarter as it fell by 3.9% in September on a year before driven by this.

The industry group ‘Manufacture of motor vehicles, trailers and semitrailers’ has shown the highest negative growth of (-) 24.8 percent followed by (-) 23.6 percent in ‘Manufacture of furniture’ and (-) 22.0 percent in ‘Manufacture of fabricated metal products, except machinery and equipment’ ( India Statistics)

Fiscal Policy

From Reuters last month.

After the corporate tax cuts and lower nominal GDP growth, Moody’s now expects a government deficit of 3.7 per cent of GDP in the fiscal year ending in March 2020, compared with a government target of 3.3 per cent of GDP.

Also there is this from the Economic Times.

In India, private debt in 2017 was 54.5 per cent of the GDP and the general government debt was 70.4 per cent of the GDP, a total debt of about 125 of the GDP, according to the latest IMF figures.

The ten-year bond yield is 6.5% showing us that India does face substantial costs in issuing debt.

Comment

We get another hint of the changes at play as we note this from the Reserve Bank of India in November and note that the result was 5%.

For Q1:2019-20, growth forecast was revised
down from 7.2 per cent in the November 2018 round
to 6.1 per cent in the July 2019 round.

As we look forwards it is hard to see what will shake India out of its present malaise.Of course if the daily news flow that the trade war is fixed ever turns out to be true that would help. But otherwise India may well still be suffering from the demonetarisation effort of a couple of years or so ago.

After the falls of last year the Rupee has been relatively stable and is now at 71.6 versus the US Dollar. A lower Rupee is something which gives with one hand ( competitiveness) and takes away with another ( cost of imports especially oil). But as it starts its policy meeting tomorrow the RBI will feel the need to do something in addition to changing its fan chart for economic growth ( lower) and inflation ( higher) giving us what is for India something of a stagflationary influence.

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The UK sees some welcome lower consumer,producer and even house price inflation

Today we complete a 3 day sweep which gives us most of the UK economic data with the update on inflation. Actually the concept of “theme days” has gone overboard with Monday for example giving us way too much information for it to be digested in one go. Of course the apocryphal civil servant Sir Humphrey Appleby from Yes Prime Minister would regard this as a job well done. Actually in this instance they may be setting a smokescreen over good news as the UK inflation outlook looks good although of course the establishment does not share my view of lower house price growth.

The Pound

This has been in a better phase with the Bank of England recording this in its Minutes last week.

The sterling exchange rate index had increased by around 3% since the previous MPC meeting

If they followed their own past rule of thumb they would know that this is equivalent to a 0.75% Bank Rate rise or at least used to be. Then they might revise this a little.

Inflationary pressures are projected to lessen in the near term. CPI inflation remained at 1.7% in September
and is expected to decline to around 1¼% by the spring, owing to the temporary effect of falls in regulated
energy and water prices.

As you can see they have given the higher value of the UK Pound £ no credit at all for the projected fall in inflation which really is a case of wearing blinkers. The reality is that if we switch to the most significant rate for these purposes which is the US Dollar it has risen by around 8 cents to above US $1.28 since the beginning of September. Actually at the time of typing this it may be dragged lower by the Euro which is dicing with the 1.10 level versus the US Dollar but I doubt it will be reported like that.

For today’s purposes the stronger pound may not influence consumer inflation much but it should have an impact on the producer price series. This was already pulling things lower last month.

The growth rate of prices for materials and fuels used in the manufacturing process was negative 2.8% on the year to September 2019, down from negative 0.9% in August 2019.

Oil Price

The picture here is more complex. We saw quite a rally in the early part of the year which peaked at around US $75 for Brent Crude in May. Then there was the Aramco attack in mid=September which saw it briefly exceed US $70. But now we are a bit below US $62 so there is little pressure here and if we add in the £ rally there should be some downwards pressure.

HS2 and Crossrail

If you are looking for signs of inflation let me hand you over to the BBC.

A draft copy of a review into the HS2 high-speed railway linking London and the North of England says it should be built, despite its rising cost.

The government-commissioned review, launched in August, will not be published until after the election.

It says the project might cost even more than its current price of £88bn.

According to Richard Wellings of the IEA it started at £34 billion. Indeed there also seems to be some sort of shrinkflation going on.

These include reducing the number of trains per hour from 18 to 14, which is in line with other high-speed networks around the world.

Here is the Guardian on Crossrail.

Crossrail will not open until at least 2021, incurring a further cost overrun that will take the total price of the London rail link to more than £18bn, Transport for London (TfL) has announced.

According to the Guardian it was originally budgeted at £14.8 billion.

If we link this to a different sphere this poses a problem for using low Gilt yields to borrow for infrastructure purposes. Because the projects get ever more expensive and in the case of HS2 look rather out of control, How one squares that circle I am not sure.

Today’s Data

This has seen some welcome news.

The Consumer Prices Index (CPI) 12-month inflation rate was 1.5% in October 2019, down from 1.7% in September 2019.

Both consumers and workers will welcome a slower rate of inflation and in fact there were outright falls in good prices.

The CPI all goods index is 105.6, down from 106.0 in September

The official explanation is that it was driven by this.

Housing and household services, where gas and electricity prices fell by 8.7% and 2.2%, respectively, between September and October 2019. This month’s downward movement partially reflected the response from energy providers to Ofgem’s six-month energy price cap, which came into effect from 1 October 2019……Furniture, household equipment and maintenance, where prices overall fell by 1.1% between September and October this year compared with a fall of 0.1% a year ago.

That is a little awkward as the official explanation majors on services when in fact it was good prices which fell outright. Oh dear! On the other side of the coin have any of you spotted this?

The only two standout items were women’s formal trousers and branded trainers.

Perhaps more are buying those new Nike running shoes which I believe are around £230 a pair.

There was an even bigger move in the RPI as it fell by 0.3% to 2.1% driven also by these factors.

Other housing components, which decreased the RPI 12-month rate relative to the CPIH 12-month rate by 0.05 percentage points between September and October 2019. The effect mainly came from house depreciation………Mortgage interest payments, which decreased the RPI 12-month rate by 0.08 percentage points between September and October 2019 but are excluded from the CPIH

Regular readers will know via the way I follow Gilt yields that I was pointing out we would see lower interest-rates on fixed-rate mortgages for a time. Oh and if you look at that last sentence it shows how laughable CPIH is as an inflation measure as it blithely confesses it ignores what are for many their largest payment of all.

House Prices

There was more good news here as well.

UK average house prices increased by 1.3% over the year to September 2019, unchanged from August 2019.

So as you can see we are seeing real wage growth of the order of 2% per annum in this area which is to be welcomed. Not quite ideal as I would like 0% house price growth to maximise the rate of gain without hurting anyone but much better than we have previously seen. As ever there are wide regional variations.

Average house prices increased over the year in England to £251,000 (1.0%), Wales to £164,000 (2.6%), Scotland to £155,000 (2.4%) and Northern Ireland to £140,000 (4.0%).London experienced the lowest annual growth rate (negative 0.4%), followed by the East of England (negative 0.2%).

Comment

The “inflation nation” which is the UK has shifted into a better phase and I for one would welcome a little bit of “Turning Japanese” in this area. However the infrastructure projects above suggest this is unlikely. But for now we not only have a better phase more seems to be on the horizon.

The headline rate of output inflation for goods leaving the factory gate was 0.8% on the year to October 2019, down from 1.2% in September 2019…..The growth rate of prices for materials and fuels used in the manufacturing process was negative 5.1% on the year to October 2019, down from negative 3.0% in September 2019.

As I pointed out yesterday this will provide a boost for real wages and hence the economy. It seems a bit painful for our statisticians to admit a stronger £ is a factor but they do sort of get there eventually.

All else equal a stronger sterling effective exchange rate will lead to less expensive inputs of imported materials and fuels.

Meanwhile let me point out that inflation measurement is not easy as I note these which are from my local Tesco supermarket.

Box of 20 Jaffa Cakes £1

Box of 10 Jaffa Cakes £1.05

2 packets of Kettle Crisps £2

1 packet of Kettle Crisps £2.09

Other supermarkets are available…..

 

 

UK Retail Sales are strong again posing questions for the CBI and BRC

We find ourselves advancing today on what is the strengths of the UK economy which is retail sales. These have consistently supported economic output and GDP ( Gross Domestic Product). However there is an undercut to this as our propensity to consume is a major factor in our persistent balance of trade deficits. It is also one of the factors that gets forgotten when this tune starts up and people get the vapors because it is an area where we are different.

I’m turning Japanese, I think I’m turning Japanese, I really think so
Turning Japanese, I think I’m turning Japanese, I really think so
I’m turning Japanese, I think I’m turning Japanese, I really think so
Turning Japanese, I think I’m turning Japanese, I really think so

British Retail Consortium

This has played a rather different tune to the official data as these excerpts from its prices report show.

Shop prices fell by 0.6% on the previous year as low consumer demand and stiff competition continued to push down prices…….While consumers may welcome lower prices, falling consumer demand is squeezing retailers’ already tight margins.

Their volume data has been weak for some time.

Unsurprisingly September proved to be another difficult month for retailers, with like-for-like sales declining by 1.7 per cent compared to last year. Worryingly, even online sales moved closer to stalling, with growth of non-food online sales only 0.7 per cent.

“Ongoing Brexit uncertainty is clearly having a material impact on the consumer psyche, with all but one non-food category being in decline in September. Consumers are choosing to focus on the essentials, with food one of the few categories delivering growth.

The trouble is that they have ended up looking like they have experienced a set of bum notes as the official data has turned out to be pretty good. Indeed frankly there has been no relation between the two at all.

The CBI

The Confederation of British Industry has been sending out an SOS for some time now.

Retail sales volumes in the year to September fell for the fifth consecutive month, albeit at a slower pace than the previous month, according to the latest CBI Distributive Trades Survey. Retailers expect the contraction in sales volumes to ease further in October.

There is a particular subject they seem obsessed with.

Five successive months of falling volumes tells its own story about the tough conditions retailers are having to operate in. Add to this the pressures of Sterling depreciation and the need to plan for potential tariffs and supply issues in the event of a no-deal Brexit and you get a gloomy picture for the sector.

The media have often joined in with this gloomy view but have regularly found themselves crossing their fingers that their readers,listeners and viewers have forgotten this when the official data is released. I fear that the British Retail Consortium and the CBI are imposing their own views on a particular issue onto the data rather than just letting the numbers speak for themselves.

Today’s Data

At first it might appear odd that this was a good number.

The quantity bought was flat (0.0%) in September 2019 when compared with the previous month, following a fall of 0.3% in August 2019.

There is the improvement from last month’s fall but there is also the fact that September last year was a particularly weak number where the index fell from 106.2 to 105.4 so if we switch to an annual comparison we see a strengthening of the position.

The year-on-year growth rate shows that the quantity bought in September 2019 increased by 3.1%, with growth across all sectors except department stores and household goods.

If we look at the picture we see that pretty much everywhere is strong but particularly non-retail and food.

In September 2019, all four main sectors contributed positively to the amount spent and quantity bought, resulting in a year-on-year growth of 3.4 and 3.1 percentage points respectively.

Non-store retailing provided the largest contribution to the growth in the quantity bought at 1.4 percentage points. Food stores reported the largest contribution to the amount spent at 1.5 percentage points in September 2019.

The Recent Trend

There have always been issues with monthly retail sales data being erratic and the modern era with the development of Black Friday and Amazon sales days have made that worse. Thus we get the best idea from the three month average.

In the three months to September 2019, moderate growth in the quantity bought continued at 0.6% when compared with the previous three months, with all sectors within non-food stores reporting declines except “other stores”.

That may be moderate growth for retail sales but we would be happy indeed if all the other areas of the economy managed it! As to the detail we are told this.

Non-store retailing showed strong growth at 4.3%; this includes a strong monthly growth in July 2019 of 6.9% with summer promotions boosting sales more than usual in this month. Food stores also reported a growth in the three-month on three-month movement; this follows three previous months of decline in the three-month on three-month growth rate.

I am afraid that one sector seems locked into decline though.

Department stores continued the ongoing decline in the three-month on three-month movement resulting in 13 consecutive months of no growth in this sector.

Online Sales

These continue to strengthen overall.

Internet sales increased by 9.1% for the amount spent in September 2019 when compared with September 2018, with all sectors reporting growths except department stores.

However the monthly numbers like elsewhere are erratic.

In contrast, internet sales fell on the month by 2.0% when compared with August 2019.

It seems that department stores cannot buy a break as I note that their online sales over the past year have fallen by 3.6%

Comment

We are seeing yet more confirmation of the theme that I established on the 29th of January 2015.

 However if we look at the retail-sectors in the UK,Spain and Ireland we see that price falls are so far being accompanied by volume gains and as it happens by strong volume gains. This could not contradict conventional economic theory much more clearly. If the history of the credit crunch is any guide many will try to ignore reality and instead cling to their prized and pet theories but I prefer reality ever time.

Actually we have shifted from absolute price falls to relative ones as inflation in this area which has been around 0.3% is far lower than wage growth, So we have real wage growth of over 3% which is boosting retail sales. Ironically the British Retail Consortium think this impact may be even stronger.

September Shop Prices fell by 0.6% compared to a 0.4% decrease in August. This is the highest rate of decline since May 2018…..Non-Food prices fell by 1.7% in September compared to August’s decrease of 1.5%. It is the highest rate of decline since May 2018.

So according to their numbers relative real wages are surging but as to the consequences well Kim Syms got it right I think.

Too blind to see it
Too blind to see what you were doing
Too blind to see it
Too blind to see what you were doing.

As to the wider issue these numbers move the UK further away from a recession as they suggest a small ( 0.03%) boost on a quarterly basis and a stronger annual one.

Meanwhile in other news Bank of England Governor Mark Carney has flown all the way to Boston in the United States to lecture us all on climate change.

Asked about his views on climate change and potential divestments from fossil fuel firms, Carney said a more effective approach would be to help companies, including automakers and energy producers, move to lower emissions.

“It’s not just about divestment,” he said. Better, he said, would be “to put capital into an energy company, that’s going from oil-and-coal heavy to a renewable mix, that they wouldn’t otherwise do if they didn’t get the capital.” ( Reuters)

He did however find time to remind us that his priority remains The Precious! The Precious!

Carney said the British central bank would probably cut the countercyclical capital buffer that it sets for banks to zero, from 1% now, if the economy – which faces the prospect of a no-deal Brexit shock – took a hit.

The Investing Channel

 

 

Good News on UK inflation but not on house prices or for those predicting Cauliflower inflation

This morning has opened with some bad news for the Office for National Statistics and the UK Statistics Authority. They have placed what little credibility they have left on what is called the Rental Equivalence method where you use fantasy imputed rents as a way of measuring owner-occupied inflation. Apart from the obvious theoretical flaws there have been all sorts of issues with actually measuring rents in the first place which led to one of the worst things you can have in statistics which is a “discontinuity” leading to a new method being required. It tells us that rental inflation is of the order of 1% per annum. So let me hand you over to a new report from Zoopla released today.

Average rents increased by 2% to stand at £876 in the 12 months to the end of September……..But despite the overall improvement in affordability, the rate at which rents are rising has accelerated from 1.3% a year earlier to reach a three-year high of 2%, although it still remains below the 10-year average of annual growth of 2.3%

Regular readers will be aware that I have posted research from the Royal Statistical Society website which argued that the official measure of rental inflation is around 1% per annum too low. The reason for this is an incorrect balance between new and old rents. Zoopla with their measure suggests that a rise in rental inflation has been missed by the official data. There is a logic to this for those of us who think that rents are influenced by wages growth as we have seen a rise in wages growth over this period.

Affordability

Whilst the official measure of rental inflation is in yet more disarray we should tale time to welcome this.

Our director of research and insights, Richard Donnell, said: “Renting is more affordable today than the 10-year average. This follows weak rental growth over the last three years, and an acceleration in the growth of average earnings.”………..As a result, the typical renter now spends 31.8% of their earnings on rent, down from a peak of 33.3% in 2016, according to our inaugural Rental Market Report, which records trends in the often-neglected private rented sector.

Propaganda

In a rather ironic twist the establishment has been trying to bolster its case. Here is Mike Hardie of the ONS in Prospect Magazine from earlier this month.

A recent House of Lords Economic Affairs Committee inquiry highlighted that the strategy was not working, with RPI use remaining widespread. In March, David Norgrove, chair of the UK Statistics Authority, wrote to the then chancellor of the exchequer requesting his consent to bring the methods of RPI into line with CPIH.

Meanwhile back in reality here is the actual point the EAC made.

We disagree with the UK Statistics Authority that RPI does not have the potential to become a good measure of inflation.

The truth is that out official statisticians have deliberately not updated the RPI and then blamed it. Next from the EAC came something that was incredibly damning for the official approach.

We are not convinced by the use of rental equivalence in CPIH to impute owner-occupier housing costs.

Returning to the official view in Prospect Magazine there seems to have been an outbreak of amnesia on this subject.

Our headline consumer prices measures, which include the Consumer Prices Index (CPI) and CPI plus owner occupiers’ housing costs (CPIH), for the most part reflect the change in price of acquiring goods and services—in other words, we record the advertised price for an apple or a new car.

Also that explanation is exactly what they do not do with owner occupied housing costs! In a further twist you may note that even their example backfires. Because of the proliferation of rental and leasing deals in the car market it is one area where you probably should now use a rental model and even a small imputed bit.

Regular readers will know I have been a fan of the new Household Cost Indices suggested by John Astin and Jill Leyland. However I note from the Prospect Magazine article that the development process that is taking ages is neutering them.

we also capture mortgage interest costs, which are excluded from other measures of inflation, such as CPI and CPIH.

No mention of house prices which were in the original prospectus and were one of the strengths of the measure? Also take a guess as to which inflation measure right now does have mortgage costs? It is the officially villified RPI.

I am afraid this could not be much more transparent. I have contacted both Prospect Magazine and its editor on Twitter to request a right of reply but so far nether have responded.

Today’s Data

There was some good news as inflation did not rise.

The all items CPI annual rate is 1.7%, unchanged from last month.

As it happens the CPIH measure comes to the same answer in spite of 17% representing a lot lower number that does not exist in CPI.

The OOH component annual rate is 1.1%, unchanged from last month…..Private rental prices paid by tenants in the UK rose by 1.3% in the 12 months to September 2019, unchanged since May 2019.

I will leave explaining that to the official number-crunchers but we have returned to my original point that as well as the theoretical problems in using fantasy imputed rents they do not seem able to measure rents properly. If they had the data they could delve into it but in another error they do not.

An especially welcome development was this.

The all items RPI annual rate is 2.4%, down from 2.6% last month.

Especially as on the month prices actually fell.

The all items RPI is 291.0, down from 291.7 in August.

It might be best to keep that quiet or the deflationistas will be back spinning along with Kylie.

I’m spinning around
Move outta my way
I know you’re feeling me
‘Cause you like it like this
I’m breaking it down
I’m not the same
I know you’re feeling me
‘Cause you like it like this

The Trend Is Your Friend

If we look at the producer price output data the future is bright.

The headline rate of output inflation for goods leaving the factory gate was 1.2% on the year to September 2019, down from 1.7% in August 2019.

Even better news comes further up the chain.

The growth rate of prices for materials and fuels used in the manufacturing process was negative 2.8% on the year to September 2019, down from negative 0.9% in August 2019.

Here is the main factor at play.

Crude oil provided the largest downward contribution to the annual rate of input inflation.

Comment

If we start with today’s figures we have received some welcome news as inflation was expected to rise. Indeed those who follow the RPI have just seen a fall which changes the real wages picture positively although of course we await the wages data for September. Should the UK Pound £ remain in a stronger phase ( it is over US $1.27 as I type this) then it and the lower oil price we looked at above will give UK inflation a welcome downwards push. Mind you as we observe those factors it is hard to avoid wondering how the economists surveyed thought inflation would be higher!

As we step back we are reminded of the utter shambles created by the use of rental equivalence and today it has come from an unusual source. If we look into the detail of the RPI we see this.

Mortgage interest payments, where average charges rose this year but fell a year ago; and  House depreciation, with the smoothed house price index used to calculate this
component rising this year by more than a year ago.

As it happens not much difference to the rental measure but to get imputed rents into CPIH at a weight of 17% other things had to be reduced and RPI fell because it does not have this effect amongst other things.

Other differences including weights, which decreased the RPI 12-month rate relative to the CPIH 12-month rate by 0.28 percentage points between August and September 2019. The effect came mainly from air fares; sea fares; second-hand cars; games, toys and hobbies and equipment for sport and open-air recreation; food and non-alcoholic
beverages; and fuels and lubricants. This was partially offset by a widening effect from furniture and furnishings, carpets and household textiles.

You see another flaw in the CPI style methodology is that via the way better off people spend more it represents people about two-thirds of the way up the income stream as opposed to the median.

Cauliflower

Remember when the lack of UK Cauliflowers was going to make us have to pay much more for ropey ones? Below is the one I bought for 59 pence last week.