We have good news as the Bank of England gets an inflation headache

As our attention moves today to inflation in the UK there is something we have cause to be grateful for. Let me hand you over to the Independent.

The pound hit its highest level against the dollar since the Brexit vote in June 2016, rising to $1.4364 by mid-morning………….

It has fallen back to US $1.43 since that but the principle that we have seen a considerable recovery since we fell below US $1.20 holds. If we look back to a year ago then we were just below US $1.28 and this matters for inflation trends because so many basic materials and commodities in particular are priced in US Dollars. We have not done so well against the Euro as we are around 2% lower than a year ago here which used to be considered as a dream ticket but as ever when we get what we want we either ignore it or forget we wanted it. The Euro has been strong which we can observe by looking at it versus the Swiss Franc where it has nearly regained the famous 1.20 threshold which caused so much trouble in January 2015.  But overall for us currency driven inflation has become currency driven disinflationary pressure.

Oil

On the other side of the coin we are seeing some commodity price pressure from crude oil and those who follow trading will be worried by this development.

DG closes long USDJPY position (Short of 3 units of yen vs the dollar). Opens short WTI & Brent (one unit of each) ( @RANsquawk )

You have reached a certain level of fame or infamy in this case when you are known by your initials but Dennis Gartman has achieved this with claims like the oil price will not exceed US $44 again in his lifetime. So we fear for developments after finding out he has gone short and if we look back we see that the price has been rising. The rally started around midsummer day last year when it was just below US $45 per barrel for Brent crude as opposed to the US $72 as I type this. More specifically it was at US $53  a year ago.

If we look wider at commodity prices we see that there has been much less pressure here as the CRB Index was 423 a year ago as opposed to the 441 of now. What there has been seems to have been in the metals section which has risen from 894 to 968. We can add to that the recent Russia sanctions driven rise in the Aluminium price as it is not included in the index.

Shrinkflation

This is on my mind because as many of you will recall we were told that products were shrinking because of the lower level of the UK Pound £. Last July the Office for National Statistics told us this.

No, you’re not imagining it – some of your favourite sweets really are shrinking. In November 2016, Toblerone chocolate bars reduced in size by about 10%, provoking outrage online. And Maltesers, M&Ms and Minstrelshave gone the same way.

It’s a phenomenon known as “shrinkflation” – where manufacturers reduce the package size of household goods while keeping the price the same.

I just wondered if any of you have seen signs of prices going back down or more specifically pack sizes growing? If we move to the price of ingredients which was blamed I note that sugar prices are lower over the past year from above US $17 to below US $12 and whilst cocoa prices have risen this year they are still below where they were in early 2016.

Even if the picture for chocoholics is a little mixed there were plenty of products which rose in price which we were told was due to the lower Pound £, have any of these fallen back now it is higher? I can tell you that the new running shoes I have just received were at the new higher £65 rather than the previous £55. I also recall Apple raising prices did they come back down?

Moving back to a more literal shrinkflation there was this a week ago. From City AM

According to new research from LABC Warranty, average house sizes have shrunk by over 12 square metres over the last 50 years.

The study looked at 10,000 houses built between 1930 and the present day, using open data from property sites Rightmove and Zoopla. The analysis concluded that house sizes are smaller than they were in the 1930s, after reaching a peak in the 1970s.

How does that work with the obesity crisis?

Today’s data

There was more of the welcome news we have been expecting on here although I note that the Financial Times has called it “disappointing.”

The all items CPI annual rate is 2.5%, down from 2.7% in February.

We do get a hint that the rally in the UK Pound £ has helped from this part of the detail.

The CPI all goods index annual rate is 2.4%, down from 3.0% last month.

Good prices were pushed up by the previous fall in the currency but now inflation in this area is rather similar to that in the services sector ( 2.5%) so after the recent drops we may see a plateau of sorts. As to the factors at play this month as I have noted several times in the past couple of years it is time to say thank you ladies.

Large downward effect…….. Prices overall rose this year by less than a year ago, with the main downward contributions coming from women’s dresses, jumpers, cardigans and coats, and boys’ T-shirts.

The good news carried on with the Retail Prices Index although of course with a higher number albeit less of a gap than we have got used to.

The all items RPI annual rate is 3.3%, down from 3.6% last month.

Producer Prices

These give us an idea of what is “coming up that hill” as Kate Bush would put it. Here we see some better news at the start.

The headline rate of inflation for goods leaving the factory gate (output prices) was 2.4% on the year to March 2018, down from 2.6% in February 2018.

However we do see the beginnings of the influence of the higher oil price further in the distance.

Prices for materials and fuels (input prices) rose 4.2% on the year to March 2018, up from 3.8% in February 2018.

House Prices

We even had better news on this front.

Average house prices in the UK have increased by 4.4% in the year to February 2018 (down from 4.7% in January 2018). The annual growth rate has slowed since mid-2016 but has remained generally under 5% throughout 2017 and into 2018. Average house prices in the UK decreased by 0.1% on the month.

Of course if we look at all the different measures we seem to be bouncing between 0% and 5% but that in itself is better and the 5% upper barrier looks like it might be set to fall.

Comment

Just in time for the sunny spring weather the UK economy has produced two days of good data. Yesterday’s employment data has been followed by a fall in nearly all our inflation measures which of course sprinkles a few rays of sunshine on the prospects for real wages. These numbers will take time to filter into the other data such as consumption and GDP ( from the autumn perhaps) but the worm has now turned in this respect albeit not in time for the first quarter of this year.

Meanwhile there are two pockets of trouble and they are centred within our establishment. Firstly Bank of England Governor Carney has apparently had a headache and asked for some ibuprofen as he mulls how an inflation targeting central banker can raise interest-rates into falling inflation having ignored its rise?

Also the Office of National Statistics has argued itself into an increasingly lonely corner with this.

The all items CPIH annual rate is 2.3%, down from 2.5% in February.

Why has it become the economics version of “Johnny no mates”? Because nobody believes this version of property inflation.

The OOH component annual rate is 1.2%, unchanged from last month

If you have to make up a number my tip is to make at least some effort at credibility.

 

 

 

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It is time to replace consumer inflation measures with inflation faced by us

Let me open today by agreeing with the Bank of England. As many of you are aware I wrote to Governor Carney challenging the testimony he gave to the House of Lords on the 30th of January. Here is part of the response from the Bank.

No measure of consumer prices is perfect.

A good start however sadly they then claim to agree with me whilst putting  a word in my mouth so to speak that I did not say. I have highlighted it below. Also as CPI has been used as their inflation target since 2003 one might wonder where this point of view has been the last 15 years.

We agree that the single biggest shortcoming of the current CPI is that it excludes the consumption price of owner-occupied housing.

If you could sum up what is wrong with the UK establishment view on inflation that single word does it. By putting it like that you go from an owner occupier spending quite a bit of their income over time on their home to someone who spends far less as it is put into another category as it is an asset which doesn’t count and/or an investment which doesn’t count either. Fantastic isn’t it? Chelsea fans like me would have loved to have done that to Barcelona;s goals last Wednesday night but even the murky world of football does not stoop so low.

On the consumption road the owner-occupier does this.

As you will know, measuring this is not straightforward because the consumption cost of owner-occupied housing services is not directly observable. As you note, people do not pay rent to themselves to live in their own home.

Of course it is not directly observable as it is a fantasy number which is imputed as it does not exist. Theory over reality again, what could go wrong?

This is considered an economically sound concept and it is easy to understand, the price a homeowner would have to pay to rent a home similar to their own, but it is clearly an imputed one.

Is “economically sound” an oxymoron? Also it may just be where I live but I have little idea of what they rental value of my flat is and as I live there am not much bothered. As to the idea that it is easy to understand may be so in the Ivory Towers of the Bank of England but I bet if you asked people you would get the reply “but I don’t”. If we go deeper there has been a lot of trouble with measuring this as the Office for National Statistics does not get the source data and is on its second effort in terms of overall series. Those of you willing to look back to 2012 on here will note that I warned about problems with the original series back then but the establishment of course knew better and when it failed it was as usual nobody’s fault. I have seen arguments that its failure to properly stratify between new and old rents means that it is perhaps 1% per annum to low. If we now move to today’s data release you can see the significance of this.

Private rental prices paid by tenants in Great Britain rose by 1.1% in the 12 months to February 2018; unchanged from January 2018.

RPI

If we move to the Retail Prices Index or RPI the Bank of England tells us this.

RPI suffers from this problem.

Which is?

In any event, an important factor in any measure of consumer prices is avoiding the influence of movements in asset price valuations (such as land prices and asset valuations of housing structures)…………. Indeed, by the inclusion of mortgage interest payments, RPI conflates the consumption cost of housing not only with asset valuations, but also with the costs of financing the acquisition of those assets.

Again theory trumps reality as something which is a large part of people’s budgets disappears from the inflation data as reality gets twisted in the clouds inhabited by the Ivory Towers. Indeed when someone is really dismissing you they tell you are important but….

We should stress that none of this is to say that house prices and mortgage interest payments do not matter. Accurate information on these is central to much of the work of the Bank’s Monetary Policy and Financial Policy Committees as well as many other economic and financial policymakers.  They matter a great deal,

They matter so much that they need to be excluded. If we look at other perspectives this matters I note some work by the NIESR suggesting that 62% of households are owner-occupiers and that this has happened.

There is a genuine question of affordability with housing.,,,,,Essentially since 1997, house prices have become twice as expensive relative to incomes.

That is the real reason that house prices are kept out of the inflation data as you see then the rises are increases in wealth and filter their way into economic growth.Maybe some is but a lot of this is inflation as first-time buyers will not noting ruefully.

Let me put this another way by noting this from the Bank of England.

As you suggest, the other main alternative is the net acquisitions approach.

No I said house prices as  my support for the net acquisitions approach has faded and let me explain why with two numbers. The weight of owner occupiers in CPIH is 17.4% but the weight using net acquisitions is 6.8%. Just as a reminder it is the same housing stock. But even with that manipulation there is a clear difference.

Owner occupiers’ housing costs (OOH) in the UK under the rental equivalence approach have grown by 1.5% in Quarter 4 (Oct to Dec) 2017 compared with the corresponding quarter of the previous year.

OOH according to the net acquisitions approach have grown by 2.9% in Quarter 4 2017 compared with the corresponding quarter of the previous year.

This comes from a release which in my opinion was part of a propaganda campaign to convince us that all roads led to the same answer. As you can see that is misfiring and perhaps like the effort with the RPIJ measure will find its way into the recycling bin both friendless and abandoned.

Comment

If we look at today’s data the news is better as we see a fall in consumer inflation with the CPI measure falling to an annual rate of 2.7% and RPI to 3.6%. Those of you mulling the potential for a second Battle of the Thames today as well as those who like to keep up to date on the price of fish might like to know that fish prices rose by 1.3% this February as opposed to 4.7% last year. Looking deeper into the inflation chain we see this.

The headline rate of inflation for goods leaving the factory gate (output prices) was 2.6% on the year to February 2018, down from 2.8% in January 2018. Prices for materials and fuels (input prices) rose 3.4% on the year to February 2018, down from 4.5% in January 2018.

The media report this as the fall in the Pound £ dropping out of the numbers actually especially in the input series it is the stronger £ versus the US Dollar at play as it has a pretty direct line in. It will impact on the other measures as 2018 develops and help to bring down their numbers

Returning to my theme we end up with a pretty clear conclusion as to the establishment’s game as RPI at 3.6% is rubbished and CPI at 2.5% is promoted. I wrote some time back that they always promote things which give the lowest number and if I am ever wrong fell free to let me know. Meanwhile my arguments are hitting home as I notice some of my opponents are getting cold feet.

It has only taken 6 years. If we move onto planning ahead I think we have to move from consumer inflation to the inflation people experience as otherwise we miss this as explained by Edward Harrison.

Using the Minsky model, it’s wholly possible that asset price inflation is through the roof even while consumer price inflation barely budges. For example, say you have a credit crisis that throws people out of work and causes mass unemployment. In that case, it would take many years to get back to full employment. You won’t see inflation rising robustly. Yet, during that period, the central bank could set interest rates at a level that encourages an increase in speculative and then, eventually, Ponzi financing. That’s a recipe for asset price inflation without consumer price inflation.

Whatever your views on the Minsky model that bit is pretty much impossible to argue with. Now should we go forwards with that or backwards with “economically sound concepts” which keep failing?

UK Inflation looks set to fall as 2018 progresses

Today brings us face to face with the UK context on what many are telling us has been the cause of the recent troubled patch for world equity markets. This is because a whole raft of inflation data from the consumer producer and housing sector is due. The narrative that inflation has affected equities markets has got an airing in today’s Financial Times.

The inflation threat has simmered for months, but the missing link had been wage growth, which made the rise in the US jobs figures for January so important, fund managers say. Indeed, the yield on the 10-year Treasury is 40 basis points higher this year, driven almost entirely by inflation expectations. Strong global economic data, coupled with sweeping tax cuts and the recent expansionary budget deal in Washington, should stir price pressures.

Actually that argument seems to be one fitted after the events rather than before as the rise in bond yields could simply be seen as a response to the expansionary fiscal policy in the US combined with interest-rate increases and a reduction albeit small in the size of the Federal Reserve balance sheet. Actually as the FT admits inflation is often considered to be good for equities!

While faster inflation would typically be good for stocks, lifting companies’ pricing power and suggesting economic growth is accelerating.

Wages

There is also a theme doing the rounds about wage inflation. Yesterday Gertjan Vlieghe of the Bank of England joined this particular party according to Reuters.

 a pick-up in wages ……..signs of a pick-up in wages

The problem for the Bank of England on this front is two-fold. Firstly it has been like the boy ( and in some cases) girl who has cried wolf on this front and the second is that the official data has picked up no such thing so far. Thus we are left essentially with one higher wages print of 2.9% for average hourly earnings in the United States. So the case is still rather weak as we wonder if even the current economic recovery can boost wages in any meaningful sense.

Trends

The first trend which should first show in the producer price numbers is the strength of the UK Pound versus the US Dollar over the past year. It was if we look back about 14 cents lower than the current US $1.388. Also the price of crude oil has dipped back from the rally which took it up to US $70 in terms of the Brent benchmark to US $62.47 as I type this. This drop happened quite quickly after this.

Goldman Sachs has held one of the most optimistic views on the rebalancing of the oil market and oil prices in the near term, and the investment bank is now growing even more bullish, predicting that the oil market has likely balanced, and that Brent Crude will reach $82.50 a barrel within six months. ( OilPrice.com)

The Vampire Squid is building up quite a track record of calling the market in the wrong direction as back in the day it called for US $200 a barrel and when prices fell for a US dollar price in the teens. I will let readers decide for themselves whether it is simply incompetent or is taking us all for “muppets”.

Today’s data

The good news was that the trends discussed above are beginning to have an impact.

The headline rate of inflation for goods leaving the factory gate (output prices) rose 2.8% on the year to January 2018, down from 3.3% in December 2017…….Prices for materials and fuels (input prices) rose 4.7% on the year to January 2018, down from 5.4% in December 2017.

Tucked away was the news that the worst seems to be passing us as this is well below the 20.2% peak of this time last year.

The annual rate of inflation for imported materials and fuels was 3.5% in January 2018 (Table 2), down 1.7 percentage points from December 2017 and the lowest it has been since June 2016.

It is a little disappointing to see the Office for National Statistics repeat a mistake made by the Bank of England concentrating on the wrong exchange rate.

The sterling effective exchange rate index (ERI) rose to 79.0 in January 2018. On the year, the ERI was up 2.6% in January 2018 and was the fourth consecutive month where the ERI has shown positive growth.

Commodities are priced in US Dollars in the main.

Consumer Inflation

This showed an example of inflation being sticky.

The all items CPI annual rate is 3.0%, unchanged from last month.

However prices did fall on the month due to the January sales season mostly.

The all items CPI is 104.4, down from 104.9 in December

The inflation rate was unaffected because they fell at the same rate last year.

There was something unusual in what kept annual inflation at 3%.

The main upward contribution came from admission prices for attractions such as zoos and gardens, with prices falling by less than they did last year.

I will put in a complaint when I pass Battersea Park Childrens Zoo later! More hopeful for hard pressed budgets was this turn in food prices.

This effect came from prices for a wide range of types of food and drink, with the largest contribution coming from a fall in meat prices.

My friend who has gone vegan may be guilty of bad timing.

An ongoing disaster

The issue of how to deal with owner-occupied housing remains a scar on the UK inflation numbers. This is the way they are treated in the preferred establishment measure.

The OOH component annual rate is 1.2%, down from 1.3% last month. ( OOH = Owner Occupied Housing).

Not much is it, so how do they get to it? Well this is the major player.

Private rental prices paid by tenants in Great Britain rose by 1.1% in the 12 months to January 2018; this is down from 1.2% in December 2017.

If you are thinking that owner occupiers do not pay rent as they own it you are right. Sadly our official statisticians prefer a fantasy world that could be in an episode of The Outer Limits. They have had a lot of trouble measuring rents which means their fantasies diverge even more from ordinary reality.

If they had used something real then the numbers would look very different.

UK house prices rose 5.2% in the year to December 2017, up from 5.0% in November 2017.

This makes inflation look much lower than it really is and is the true purpose in my opinion. A powerful response to this at one of the public meetings pointed out that due to the popularity of leasing using rents for the car sector would be realistic ( they do not) but using it for owner-occupied housing is unrealistic ( they do).

If you want a lower inflation reading thought it does the trick.

The all items CPIH annual rate is 2.7%, unchanged from last month.

Comment

The underlying theme is that UK consumer inflation looks set to trend lower as 2018 progresses which is good news for both consumers and workers. The initial driving force of this was the rally of the UK Pound £ against the US Dollar and as it has faded back a little we have seen lower oil prices. We also get a sign that prices can fall combined with annual inflation.

The all items CPI is 104.4, down from 104.9 in December…..The all items RPI is 276.0, down from 278.1 in December…….The all items CPIH is 104.5, down from 105.0 in December.

One issue that continues to dog the numbers is the treatment of housing and for all the criticisms levelled at it a strength of the RPI is that it does have house prices ( via depreciation).

The all items RPI annual rate is 4.0%, down from 4.1% last month.

Meanwhile the Bank of England seems lost in its own land of confusion. It cut interest-rates into an inflation rise and then raised them into an expected fall! This is of course the wrong way round for a supposed inflation targeter. Now they seem to be trying to ramp up the rhetoric for more increases forgetting that they need to look 18 months ahead rather than in front of their nose. Perhaps they should take some time out and listen to Bananarama.

I thought I was smart but I soon found out
I didn’t know what life was all about
But then I learnt I must confess
That life is like a game of chess

 

 

The UK establishment dislikes the RPI because it produces a higher inflation number

Yesterday saw a new phase in a battle I have been fighting since 2012 with roots back to 2009. Back then some changes were made to the way the UK measured inflation in clothing and footwear that led to some uncomfortable answers. This triggered a debate about how we should measure inflation and the UK establishment immediately became fans of Steve Winwood.

While you see a chance take it
Find romance fake it
Because its all on you

You see over this period their behaviour can be summed up simply they are against inflation measures which give a HIGHER answer and in favour of ones which give a LOWER answer. Every time.

Governor Carney joins the party

It must have been party time for Chris Giles the economics editor of the Financial Times as he reported this.

Speaking to the House of Lords economic affairs committee, Mr Carney said the UK “wouldn’t want to be in the same position 10 years from now” using an inflation measure with “known errors” to uprate government bonds, student loan contracts and rail fares.

Indeed Governor Carney went further.

Mark Carney, Bank of England governor, on Tuesday called for a “deliberate and carefully timed” withdrawal of the retail prices index from its use in government contracts because “most would acknowledge, [the RPI] has no merit”.

There are some familiar features here of which the first is usually a combination of hyperbole and arrogance. For example to say that the RPI has “no merit” is plainly silly as whilst it has flaws it also has strengths of which more later. Also if it has “no merit” this should have been obvious from the start of Governor Carney’s term in July 2013 so why has he taken getting on for five years to notice it and then point it out? To use the Bank’s own language he has been “vigilant” with all that implies.

The next bit is maybe even more breathtaking.

He is the first senior official, outside of the UK’s statistics office, to call for the retirement of the RPI and to suggest a way to remove it in long term contracts, some of which stretch so far into the future that they mature in the second half of this century.

Is there an implication that existing contracts will be changed by a sort of force majeure? Care is needed here as the current landscape exists into the 2060s. Anyway the rhetoric continues.

The RPI has lost its status as a trusted inflation measure since 2012 when the Office for National Statistics found that an obscure change in the way it collected the price of clothing exaggerated the difference between it and other measures of inflation which show prices rising at a slower pace.

The use of “trusted” again overreaches. What happened it was declared as “not a national statistic” but it was also true that in the debate the RPI found support at places like the Royal Statistical Society from people like me. Actually some who have looked at this think that it was RPI which behaved more accurately over this period. So there has been a debate ever since and this raises a wry smile.

The ONS agreed that the RPI had errors, but the statistical office still refuses to improve its measurement after rejecting an expert committee’s advice to change the index in 2012. “RPI is not a good measure of inflation and we do not recommend its use,” an ONS spokesperson said.

I will leave you to decide whether Chris Giles is in fact an “expert” as he describes himself as he was on that committee ( CPAC) and voted  for imputed rents rather than house prices in CPIH. The problem with the “expert” description is that CPIH was later also declared not to be a national statistic because the rents numbers used in the imputed rents data were found to be wrong. This was something I predicted to Chris some 5 years ago when he spoke at the Royal Statistical Society.

The problems with inflation measurement

Let me give you some illustrations of good and bad features of UK inflation measures.

RPI

A good feature is that it covers owner-occupied housing mainly via the use of house prices via the depreciation component and mortgage interest-rates. It also covers the “average” better than most other measures by excluding some extremes. Apparently these have “no merit”.

The argument against centers on the “formula effect”

Mr Carney said the upward bias in the RPI was 0.7 percentage points a year.

Arguments have raged over the issue of a geometric mean versus an average one. This lead to the calculation of a variant called RPIJ  which was RPI without the “formula effect” and regular readers will have seen Andrew Baldwin’s eloquent arguments in favour of it in the comments section. Yet the UK establishment pressed the delete button on it after only a couple of years or so . Would it be rude to point out that it had consistently given higher readings than their preferred measures?

CPI

The arguments in favour of this are that it is consistent with national accounts methodology and that it avoids the formula effect. Against is the way that it omits owner-occupied housing and that it covers the better-off rather than the average person. This is because it is expenditure weighted and the fact that the better off spend more means it ends up about 2/3rds of the way up the income spectrum as opposed to the average,

CPIH

This variant of CPI above, does cover owner occupied housing but as even the FT hints there is an enormous flaw in the way it does so.

includes an estimate of the housing costs of owner occupiers

That is simultaneously true and untrue. What it has via the use of imputed rent is an estimate of something which is never paid as home owners do not pay themselves rent as assumed. Again this fits with national accounts methodology at the expense of reality.

 

Comment

The truth is that there is no perfect inflation measure as every measure tries to measure the “typical” experience and we all vary in some way or another. There is a further nuance in that we can try to measure the cost of living or try to follow a purist economics/statistic measure based on consumption. Personally I think that the former is a better route as the Bank of England regularly finds out when it conducts its expectations survey.

Asked about expectations of inflation in the longer term, say in five years’ time, respondents gave a median answer of 3.5%, compared to 3.4% in August.

Another way of putting this is from a reply to the FT from Lu Xun.

The average 25 year old living independently of parents is spending 50-75 % of post tax income on rent in London.  Official inflation  of 2 % , 3 % , no matter if  RPI  or CPI ,  is entirely meaning less for the average punter.

The sad reality of the UK experience has gone as follows and see it you can spot a trend. We were told RPI ( 4.1%) was bad and was replaced by CPI (3%). For a while we were told RPIJ (~3.4%  ) was a possible way ahead but it got dropped whilst CPIH ( 2.7%) with its fantasy rents for owner-occupiers carries on as the “preferred” measure.

Meanwhile RPI carries on with more believers in it than the claim of it losing “trusted” status would have you believe. Yet it is not being updated ( a rather petulant act in my opinion) so it will over time increasingly have issues which when you consider it will be used into the 2060s is a decision of which those who made it should be thoroughly ashamed. Also let me agree with Chris Giles on one issue its use in areas where the government benefits and we lose but not the reverse is simply indefensible and wrong.

student loan contracts and rail fares.

Some care is needed though as some pensioners will have it in their contracts and of course what on earth will the Bank of England pension fund invest in going forwards ( 90% last time I checked)? A bit of a gap there between its rhetoric and behaviour.

However all is not lost as we do not have to go down the slippery slope from RPI to the CPIH as you see there is a new measure called HCI on its way. It looks like it will be a proper replacement for RPI as it does cover house prices so in a few years time once it begins to have a track record we could perhaps suggest beginning to move from RPI to it. It would have been much better if Governor Carney said that and also argued for the RPI to be properly updated in the meantime.

Those of you interested in finding out more about the proposed HCI will find more at the link below.

https://notayesmanseconomics.wordpress.com/2017/12/19/welcome-to-the-uk-household-cost-index-bringing-hope-for-a-better-inflation-measure/

Number Crunching

You may be intrigued to know that an estimate of the effect of switching from RPI to CPI was that it raised GDP by around 0.5% a year. How? Well for the same outcome lower inflation means a higher recorded real output.

 

Is UK inflation rising or falling?

Today brings UK inflation data in to focus but before we get there we have received almost a message from the past from Nigeria. What I mean by that is that the inflation rate of 15.37% it has just reported for December is a reminder of past problems in the UK. Whilst it is a reduction on November consumers in Nigeria will be focusing on food price inflation of 19.4% no doubt whilst their central bank tells them it is non-core. We even have a hint of a consequence of hyper inflation as I note three different unofficial estimates for its inflation appearing and they are 600%, 3000% and 5067%. Aren’t you glad that’s clear?!

The trend

This year has started with inflation concerns as a theme and they have come from two sources. One seems to be something of a rehash of the tired old “output gap” theory. This has perhaps been given a little more credence this year as the world economy has been doing well and finally as unemployment falls in so many places we will then supposedly see some inflation as the Phillips Curve leaps from its grave like Dracula. Or something like that. Putting it another way there are overheating fears based on similar lines. William Dudley of the New York Federal Reserve was expressing such fears last week in remarks and in the Wall Street Journal. The problem for such thinking is that “output gap” style theories have been consistently wrong in the credit crunch era.

What we actually have as I looked at on the of this month is rises in commodity prices. Another example of this was seen overnight as the price of a barrel of Brent Crude Oil nudged over US $70. It has dipped back below that today but the underlying message is of an oil price around US $14 higher than a year ago and US $25 higher than the  recent nadir of late June 2017. There are various ways of looking at the impact of this but below is one version.

The New York Fed has a go at measuring inflationary pressure as shown below.

The UIG derived from the “full data set” increased slightly from a currently estimated 2.96% in November to 2.98% in December. The “prices-only” measure decreased slightly from 2.22% in November to 2.18% in December.

This is a better method than the attempt to look at core measures ( which for newer readers mostly means excluding the most important things like food and energy). What it shows us is some upwards pull on inflation right now albeit that some of that is from financial markets and maybe self-fulfilling.

Shrinkflation

My theme that the UK is particularly prone to inflation gets another tick. From the BBC.

Coca-Cola has announced it will cut the size of a 1.75l bottle to 1.5l and put up the price by 20p in March, because of the introduction of a sugar tax on soft drinks from April this year.

Today’s UK data

Let us open with a welcome piece of news.

The all items CPI annual rate is 3.0%, down from 3.1% in November.

The only person who may be shifting in his seat is Bank of England Governor Mark Carney who has yet to write his explanatory letter to the Chancellor about it being over 3% and now of course it isn’t! Embarrassing.

The reasons for the dip are based on air fares and something parents will have welcomed.

The largest effects came from prices for games and toys, which fell between November and December 2017 by more than they did a year ago.

The air fares move is intriguing as it is a technical move based on them having a lower weighting or the implied view they are relatively less important. So they rose by a similar amount but had less impact, curious.

What happens next?

If we look a producer prices we get a glimpse of what is coming over the hill in inflation terms.

The headline rate of inflation for goods leaving the factory gate (output prices) rose 3.3% on the year to December 2017, up from 3.1% in November 2017.Prices for materials and fuels (input prices) rose 4.9% on the year to December 2017, down from 7.3% in November 2017.

As you can see the immediate impact is a small pull higher but behind that there is less pressure than before. On the latter point we see yet again the impact of the oil price.

The largest upward contribution to the annual rate in December 2017 came from crude oil, which contributed 1.69 percentage points (Figure 2) on the back of annual price growth of 10.6% (Table 3), down from 26.9% last month.

If we look at what has happened since the numbers were collected the oil price is up around US $4/5 but in a welcome development the UK Pound £ is up around 4 cents against the US Dollar. So we can conclude two things. Firstly the impact of the lower Pound £ is quickly washing out of the system and in fact as we look forwards it will be a reducing factor on inflation if it remains at these levels because as I type this it is around 13 cents higher than a year ago. Meanwhile the higher oil price I looked at earlier is moving things in the opposite direction. So if you prefer we are moving from an individual phase to more of a world-wide one.

There is a long section in the report on the trade-weighted £ which has many uses but in this area I am afraid that Men At Work were correct due to so many commodity prices being in US Dollars.

Saying it’s a mistake
It’s a mistake
It’s a mistake
It’s a mistake

A  much bigger mistake

The UK inflation establishment has pushed forwards a new inflation measure and when it was mooted back in 2012 it got a wide range of support. For example the committee which recommended and pushed it called CPAC included representatives from the BBC ( Stephanie Flanders although she left before the actual vote) and the Financial Times ( economics editor Chris Giles). But their main change has failed utterly unless you actually believe costs for those who own their own homes have done this over the past year.

The OOH component annual rate is 1.3%, down from 1.5% last month.

Does anyone actually believe that housing costs in the UK are a downwards drag on inflation? Even someone looking at us from as far away as Pluto could spot that one is very wrong. After all this morning also saw this released.

Average house prices in the UK have increased by 5.1% in the year to November 2017 (down from 5.4% in October 2017). The annual growth rate has slowed since mid-2016 but has remained broadly around 5% during 2017.

Not exactly the same month but if we look at the trend we see that what buyers regard as 5% has somehow morphed into 1.3%! They might reasonably become rather angry when they learn it is because something which does not exist and is never paid called Imputed Rent that is used to lower the number. This also leads me to have to point out that this from the Office of National Statistics deserves the banner of Fake News

mainly from owner occupiers’ housing costs (OOH),
with prices increasing by less between November and December 2017 than they did a year
ago. OOH costs have changed little since September 2017,

This implies they have measured the costs when the major influence is imputed instead.

Comment

It is a sad thing to report but UK inflation measurement has been heading in the wrong direction since at least 2012 and maybe 2003 since CPI was introduced. Much of the problem comes from our housing market which CPI mostly ignores ( the owner occupied housing sector is given a Star Trek style cloaking device and disappears). It leads to this problem.

The all items CPI annual rate is 3.0%, down from 3.1% in November…….The annual rate for RPIX, the all items RPI excluding mortgage interest payments (MIPs), is
4.2%, up from 4.0% last month.

Over time a gap like this is significant in many respects and has consequences. After all the inflation target was only moved by 0.5% so does the 1.2% gap highlight another possible cause of the credit crunch? Next whilst the gap is 1,1% to the headline RPI that means students pay more and reported GDP is higher. Of course GDP would be higher still if CPIH was used.

The all items CPIH annual rate is 2.7%, down from 2.8% in November

No wonder more and more people are losing faith. Let me end on a positive note which was my subject of the 19th of December which highlighted a better way.

 

 

Take your pick as UK Inflation rises via CPI and falls via RPI whilst staying the same via CPIH

The issue of UK inflation being above target is obviously troubling the UK establishment so much so that this morning HM Treasury has decided to tell us this.

Latest data from comes out today. Find out more about how the UK brought inflation under control:

There is a problem here as you see when we introduced inflation targeting in late 1992 the targeted measure called RPIX was below 4% and around 3.7% if the chart they use is any guide. It is currently 4% after 4.2% last month which is of course higher and not lower! So this is not the best time to herald the triumph of inflation targeting to say the least! Even worse if you look at the longer-term inflation charts in the release it is clear that the main fall in inflation happened before inflation targeting began. I will leave readers to mull whether the better phase was in fact the end of an economic mistake which was exchange-rate targeting.

The Forties problem

There will be a burst of inflationary pressure when we get the December inflation data from this issue. From the Financial Times.

The North Sea’s key Forties Pipeline System, which delivers the main crude oil underpinning the Brent benchmark, is likely to be shut for “weeks” to carry out repairs to an onshore section of the line, a spokesman for operator Ineos said on Monday. The move follows the worsening of a hairline crack in the 450,000 barrel-a-day pipe near Red Moss in Aberdeenshire over the weekend……..The FPS transports almost 40 per cent of the UK North Sea’s oil and gas production by connecting 85 fields to the British mainland.

If I was Ineos I would be crawling over the contract to buy the pipeline as they only did so in October and may have been sold something of a pup by BP. But in terms of the impact we have seen Brent Crude Oil move above US $65 per barrel in response to this. Also a cold snap in the UK is not the best time for gas supplies to be reduced as we wait to see how prices will respond. No doubt some of the production will get ashore in other ways but far from all. Also other news is not currently helping as this from @mhewson_CMC points out.

U.K. GAS FUTURES SURGE ON BAUMGARTEN EXPLOSION, NORWAY OUTAGE………front month futures jump about 20%.

Today’s data

This will have received a particularly frosty reception at the Bank of England this morning.

CPI inflation edged above 3% for the first time in nearly six years, with the price of computer games rising and airfares falling more slowly than this time last year. These upward pressures were partly offset by falling costs of computer equipment.

The annual reading of 3.1% means that Governor Mark Carney will have to write a letter to the Chancellor of Exchequer Phillip Hammond to explain why it is more than 1% over its target. I have sent via social media a suggested template.

Of course the official version could have been written by Shaggy.

I had tried to keep her from what
She was about to see
Why should she believe me
When I told her it wasn’t me?

We will not find out precisely until February as one of the improvements to the UK inflation targeting regime was to delay the publication of such a letter until it was likely to be no longer relevant.

How can we keep the recorded rate of inflation down?

This will have troubled the UK establishment and they came up with the idea of making a number up based on rents which are never paid. They rushed a proposal in last year as they noted that it was likely to be a downwards influence on inflation in 2017. How is that going? I have highlighted the relevant number.

The CPI rate is higher than the CPIH equivalent principally because the CPI excludes owner occupiers’ housing costs. These rose by 1.5% in the year to November 2017, less than the CPI rate of 3.1% and, as a result, they pulled the CPI rate down slightly, to CPIH.

That number which is a fiction as the Imputed Rents are never actually paid has a strong influence on CPIH.

Given that OOH accounts for around 17% of CPIH, it is the main driver for differences between the CPIH and CPI inflation rates.

This is like something straight out of Yes Prime Minister where a number which is never paid is used to reduce the answer. Just for clarity rents should be in the data for those who pay them but not for those who own their home and do not. Those who own their homes will be wondering why actual real numbers like the ones below are not used.

Average house prices in the UK have increased by 4.5% in the year to October 2017 (down from 4.8% in September 2017). The annual growth rate has slowed since mid-2016 but has remained broadly around 5% during 2017.

What do you think it is about a real number that would INCREASE the recorded inflation rate that led it to be rejected for a fake news one which DECREASES the recorded inflation rate?

House Prices

Tucked away in the release was this which may be a sign of a turn.

The average UK house price was £224,000 in October 2017. This is £10,000 higher than in October 2016 and £1,000 lower than last month.

A 0.5% monthly fall. As the series is erratic we will have to wait for further updates.

What is coming over the hill?

We are being affected by the higher oil price.

The one-month rate for materials and fuels rose 1.8% in November 2017 (Table 3), which is a 0.8 percentage points increase from 1.0% in October 2017, driven by inputs of crude oil, which was up 7.6% on the month.

This meant that producer price inflation rose on the month.

The headline rate of inflation for goods leaving the factory gate (output prices) rose 3.0% on the year to November 2017, up from 2.8% in October 2017. Prices for materials and fuels (input prices) rose 7.3% on the year to November 2017, up from 4.8% in October 2017.

This is more than a UK issue as this from Sweden Statistics earlier indicates.

The rise in the CPI from October to November 2017 was mainly due to a price increase of vehicle fuels and lubricants (4.5 percent),

Comment

There is a lot to consider here as headlines will be generated by the fact that Bank of England Governor Mark Carney will have to write an explanatory letter about the way CPI inflation has risen to more than 1% above its annual target. He might briefly wish that the old target of RPIX was still in use.

The annual rate for RPIX, the all items RPI excluding mortgage interest payments (MIPs), is 4.0%, down from 4.2% last month.

Although actually he would soon realise that he would have had to have written a formal letter a while ago for it. For the thoughtful there is interest in one measure rising as another falls and here are the main reasons.

Other differences including weights, which decreased the RPI 12-month rate relative to the CPI 12-month rate by 0.15 percentage points between October and November 2017.

Ironically putting house prices into the inflation measure would have reduced it last month.

Other housing components excluded from the CPI, which decreased the RPI 12-month rate relative to the CPI 12-month rate by 0.06 percentage points between October and
November 2017. The effect came mainly from house depreciation.

Will the UK establishment do another u-turn and suddenly decide that house prices are fit for use ( now they may be falling) in the same way they abandoned aligning us with Europe by not using them or the way they dropped RPIJ?

The trend now sees two forces at play. The trend towards higher inflation from the lower UK Pound £ is not far off over. However we are seeing a higher oil price offset that for the time being and I am including the likely data for December in this. So we will have to wait for 2018 for clearer signs of a turn although the Retail Price Index may already be signalling it.

Meanwhile the “most comprehensive measure of inflation” and the Office for National Statistics favourite CPIH continues to be pretty much ignored. The punch may need fortifying for this years Christmas party.

Meanwhile I guess it could be (much) worse.

The Financial Times said Avondale Pharmaceuticals bought the rights to Niacor from Upsher Smith, a division of Japan’s Sawai Pharmaceutical, earlier this year. The company also bought the rights to a drug used to treat respiratory ailments, known as SSKI, and increased the price by 2,469 per cent, raising the cost of a 30ml bottle from $11.48 to $295.

 

 

The UK Student Loan problem is going from bad to worse

Sometimes developments flow naturally together and we see a clear example of this today. It was only yesterday that I pointed out that the Bank of England puts its telescope to its blind eye on the subject of student loans.

 In addition students will be wondering why what are likely to appear large debt burdens to them are ignored for these purposes?

Excluding student debt, the aggregate household debt to income ratio is 18 percentage points below its 2008
peak.

This is particularly material as we know that student debt has been growing quickly in the UK due to factors such as the rises in tuition fees.

Losses mount

I am often critical of the Financial Times but this time Thomas Hale deserves praise for this investigation.

The UK government is set to book a loss of almost £1bn from its largest privatisation of student loans, raising questions over the valuation of tens of billions of pounds of remaining graduate debt.

The most obvious question is why are we privatising these loans at a loss? It was of course the banking sector which saw privatisation of profits and socialisation of losses as fears will no doubt rise that this could be the other way around in terms of timing.

As we look at the detail the news gets even more troubling.

The controversial sale of a batch of student loans this week is expected to raise around £1.7bn, according to a Financial Times analysis of deal documentation. The loans, which had a face value of £3.7bn last year, are part of a total of £43bn in loans made to students up to 2012, which are currently on government books valued at just under £30bn, according to the Department of Education’s latest published accounts, as of the end of March this year.

As you can see not only are those loans not alone but they are being sold at a level below previous mark downs in value. The £3.7 billion face value had already been marked down to £2.5 billion and now we see this.

The deal will raise around £1.7bn in cash through the securitisation process, where assets are packaged together and sold off as bonds to investors. The process is a common feature of financing for student borrowing in the US but has rarely been used in the UK.

This seems odd as why would the UK taxpayer want to capitalise his/her losses?

The government’s loan book sale is dependent on passing a “value for money” test, which is designed to ensure that public assets are not sold too cheaply. The details of the test will not be made public but it is expected to provide a different, lower valuation for the loans compared to those on the DfE accounts.

The sale of the loans is part of a wider government effort to sell public assets “in a way that secures good value for money for taxpayers”, according to a statement on the student loans company website. The government aims to raise a total of £12bn through selling an unspecified amount of pre-2012 student loans over the next five years.

This brings us to a combination of Yes Prime Minister and George Orwell. Whilst it is possible that selling something at half its original value is sensible it needs to be checked carefully especially if it is public money . Also if it is a good deal for the new investors why not keep it?

What has happened to these loans?

Essentially these are loans from the previous decade which only have a rump left and guess which rump?

The transaction is made up of loans issued between 2002 and 2006, on which repayments are linked to income. Around half of students who borrowed during that period had already paid off their loans by the end of the 2015-16 financial year, meaning the pool of debt included in the deal is likely to be of a lower credit quality. Of those graduates with outstanding loans, only 60 per cent made a repayment in the same financial year.

So 40% of the remaining loans are seeing no repayments at present and the pricing here suggests that this will continue. One fear is that the buyers of the loans may try to pressurise students to repay even if they cannot afford to. Also there is the issue of what looks like around 20% of the students from over a decade ago still do not earn more than the £17,775 threshold ( confusingly more recent students seem to have a £21,000 threshold).

The rationale

Carly Simon poses the apposite question

Why?…. Don’t know why?

This is what it is all about. Yet again a wheeze for the national debt numbers.

Part of the motive for the sale is to reduce public debt. The cash generated from the transaction will go towards reducing public sector net debt, which was £1.79tn at the end of October. Unlike cash, student loan assets do not count towards the calculation of public sector net debt.

Comment

This is in my opinion a disaster on a national scale. Let me open with an issue which regular readers will be aware of but newer ones may not. This is the cost or interest on these loans and you may like to note that the most the UK would pay on issuing government debt is ~1.5%. From MoneySavingExpert (MSE ).

The rate used is the previous March’s RPI inflation rate. March 2017’s RPI inflation rate was 3.1% meaning interest charged on student loans for the 2017/18 academic year is between 3.1% and 6.1% depending on whether you’re studying or graduated, and how much you earn.

So at least double and maybe quadruple the alternative which speaks for itself. On this subject I both agree and disagree with MSE. He thinks for some it does not matter than much of this will never be repaid and is in that sense “free.” But you see along the way it matters as there is not only the psychological effect of say a £50k debt but it is also it affects mortgage calculations now. Recently reports have arisen of younger people not joining the NHS pension scheme and I wonder if that is linked to the fact that nurses now have student debts and feel burdened.

Back on the first of August 2016 I explained the problem like this.

We move onto the next problem which is that ever more of this debt will never be repaid which poses the question of what is the point of it? It feels ever more like a rentier society where someone collects all the interest and the takes the loan capital but we then forget that. Another type of borrowing from the future.

It would be much simpler I think to abandon the whole system and go back to providing tuition fees and grants. Also as this reply to the FT from safeside implies perhaps some of the weaker universities should be trimmed.

It would be interesting to see which universities produce graduates who are sub inv grade

It is tempting to suggest we should also write the whole lot off as let’s face it we are writing most of it off along the way anyway. The only major issue I think is how to treat fairly those who have already repaid their loans either in part or in full. It would also end the shambolic way the loans are collected. We seem to have replaced a system which worked with one based on more than few fantasies and if we continue to follow the American way then as I pointed out in August 2016 students can presumable expect this.

It’s 9 p.m. and your phone chimes. You’re among the one in eight Americans carrying a student loan—debts that collectively total nearly $1.4 trillion—and you’ve started to fall behind on your payments.

You know the drill: round-the-clock robocalls demanding immediate payment. You wince and pick up.