UK Inflation falls to match previous record low
The UK inflation rate fell sharply to
0.5% in December, equalling the lowest on record, according to official figures released today.
Inflation as measured by the Consumer Prices Index fell from 1% in November to its lowest rate since May 2000, helped by cheaper fuel prices.
Low inflation could mean lower interest rates for longer, Bank of England governor Mark Carney told the BBC. The fact that inflation is below 1% also means that Mr Carney has to write to the chancellor and explain why inflation is so low, as the CPI rate is more than one percentage point away from the Bank's 2% target.
That will probably be one of the less difficult letters of explanation you can imagine having to write
The Office for National Statistics (ONS) said that the Retail Prices Index (RPI) measure of inflation has also fallen, to 1.6% from 2%.
The ONS said that in addition to falling fuel prices, the drop in inflation was also due to the rises in gas and electricity prices in December 2013 falling out of the equation.
Ironic that the gas price hikes partly caused by Ed Miliband last year fell out of the equation on the same day that Labour was rumoured to be abandoning the policy - a gas price freeze if Labour win the election - which contributed to those rises.
(Even Labour is not quite stupid enough to miss the point that if you freeze fuel prices when they would otherwise be falling it has the opposite effect to freezing them when they are going up.)
Mr Carney told the BBC's Robert Peston that he expects inflation to fall further, as petrol prices are reduced to catch up with the tumbling oil price.
But his current assessment is that the reduced food and energy prices are an economic stimulus - because they boost the spending power of British consumers.
He said that conditions in the eurozone were more deflationary than here, citing its much higher unemployment rate and stagnant wages.
That said Mr Carney said it was not impossible that the falls in energy and food prices could infect other sectors - such that outright deflation could become a clear and present danger.
The Bank had the tools to deal with that risk, Mr Carney said, to nudge inflation back towards the 2% target if that happened.
Evasive action, if needed, would be by keeping interest rates at present record low levels for a bit longer, he added, rather than engaging in more money creation through quantitative easing.
He wanted to stress that the Bank still expected to "normalise" interest rates, or raise them gently, within the foreseeable future - though all commentators agree that this "foreseeable future" has just got a bit further away.
Comments
As things come down in price it simply makes them affordable. You see it all the time with electronics and things. Take a new games console, if you want it immediatly then you pay more for it, you wait a while and when the price drops and the price of the games drops, then more and more people tend to buy it.
A flat screen telly, i mean when they were first introduced then you could have had one for a mere £2 grand, if you're like me you possibly didnt want one that much. But as the price dropped to a couple of hundred quid you may well have bought one. It wasnt like you thought oh these things are currently 2 grand I had better buy one quick before the price goes up.
Its not the case that the economy would grind to a halt as no one is spending either, people still need to buy things, and many will pay more, quite a lot more, to "have it first" I just cant figure why deflation would be a a bad thing, take houses even, if you buy one for 100,000 then house prices all dramatically drop, then it only affects you should you want to move, even then yes you may only get 70,000 for yours, but that 70,000 will buy you a far better house than 70,000 would have when you bought the first one.
I mean how terrible, the tenner i have in my pocket will buy me more today than it would have bought me yesterday. How depressing.
Oh no, I can afford that car i always wanted as the price has fallen, oh dear.
Mummy, mummy, its horrible, i saved some money a while ago, and now i can buy loads of stuff with it, I really wanted it to buy me so much less......what am I going to do????
Week 2. Hi Chris here is that tenner I owe you, take.
The tenner is worth more in week 2 so you win, I win as I really needed it in week 1. Where is the problem?
To quote Ian Fleming, "But, but but and again but ..."
The vicious circle which may become a problem starts if people begin to think that, because they expect prices to fall, they should postpone spending in the hope of getting things cheaper later. That can cause a drop-off of consumer spending below the level necessary to maintain growth and employment.
Then people start losing their jobs, so they have less to spend, so demand falls further, which leads to a mix of lower prices and lower volumes of goods sold, hence lower business income and more people lose their jobs and businesses fold. In desperation people start hanging on to scarce money as long as possible causing the velocity which money circulates to fall, and you can prove mathematically that this will lead to lower national income, further depressing demand, and you get into a full scale classical recession or even a depression.
This kind of thing was a regular event in the past - happening on a cyclical basis every few years throughout the nineteenth century, for instance - whenever governments and central banks were not following inflationary policies such as debasing the coinage or, as Spain did after conquering southern and central America, importing vast quantities of Gold and Silver at a time when the economies of Europe were based on those metals and touching off a century of inflation.
It is difficult for our generation to appreciate what classic recessions were like as there has not been one since the thirties. Keynes proposed methods of preventing them which have been taken on board by almost every government and which usually work, if you define preventing a classic depression as success.
Unfortunately these methods have their own problems - e.g. runaway inflation and stagflation if you overdo it - which is more what our generation are used to.
So those of us who are under ninety have had a masterclass in the havoc which inflation and overly loose monetary and fiscal policies can cause but do not understand the harm which deflation can cause.
Believe me, our grandparents' generation had the opposite experience and were only too well aware of what that could be like. When I was at school I recall one of my Economics teachers saying that governments which were trying to curb runaway inflation described their policy as "disinflation" rather than "deflation" because in the seventies there were still plenty of voters around for whom the word "deflation" brought back horrific memories of the 1930's.
Which is why the aim of responsible governments and central banks is to keep prices as stable as possible without actually tipping over into the point where the people expect the general level prices to fall.
take the lastest iPhone. On the day its released its very expensive, after a year or so the price has fallen quite a lot, and everyone knew its price was going to fall, yet, lots of people did buy it on realease day, even though they were fully aware it will be cheaper next year. Its like the status symbol of having it first, so it does not follow that all people would defer spending to halt the economy. Same thing with a new game for the Play station, on release day and for a couple of months after its £50 loads of people buy it, a year later you can buy the same game for less than £20, but not all people are willing to wait for it, they would rather spend more and have it now.
Also with essentials, well you cant defer. You need to buy food and clothes and pay the gas bill this month, regardless of the fact you know it will be cheaper next.
They would just need to save a few percentage points of their income more if that causes the deflationary flows in the economy which take spending out (saving, taxes, and imports) to exceed the inflationary pressures (investment, exports, and government spending.)
Economies have some capacity to adjust but they can and do get out of balance in either direction, with an imbalance in one direction leading to inflation and the other to depression.
Jim, I am not describing some kind of ivory tower theory dreamed up by economists with no relationship to the real world, up to the 1930's this sort of thing used to regularly happen.
You are entirely right about money illusion - If both my wages and the price of the things I but drop by half, I am no worse off in real terms. The problem is the risk of the fall triggering a recession