Inflation to Hurt UK Consumers in 2017?
Ever since the onset of the financial crisis nearly a decade ago, central banks have been struggling to revive inflationary pressures mostly through easy monetary policy. After all, rising prices can shore up demand and allow businesses to rake in more profits, which then translate to increased hiring and wage growth. However, sudden gains in price levels can prove to be a bane for consumers if this winds up hurting their spending power.
In the United Kingdom, a combination of years’ worth of low interest rates and a sharp depreciation in sterling since the Brexit vote last year have brought forth a rapid pickup in inflation. In November, headline CPI rose from 0.9% to 1.2%, outpacing the market consensus at 1.1%, while core CPI surged from 1.2% to 1.4%. Components of the inflation report indicated that higher prices of clothing, motor fuels, and recreational and cultural goods and services were responsible for the gains. On the other hand, air and sea fares posted declines.
While the recent surge in CPI might not seem much, it does represent a pretty considerable increase from the 0.3% headline readings right around the time of the EU referendum and a hefty gain over the negative figures back in late 2015. On the flip side, wages have increased in a much slower pace, which means that the average consumer might be having trouble keeping up with higher costs of everyday goods.
The average earnings index improved to 2.5% for the three-month period ending in October, up from the earlier 2.4% reading. However, this pales in comparison to the 3.0% rolling average in late 2015. In other words, CPI has climbed considerably in the same period that wages have weakened.
Weak consumer confidence
In fact, an index of consumer confidence compiled by YouGov and the Centre for Economics and Business Research revealed that sentiment fell to its lowest level since July. Most of the survey responses revealed that households are more concerned about their finances these days than at any time in the past two years and that their economic outlook for the next 12 months has seen a sizeable decline.
According to Scott Corfe, director at the CEBR, the slow creep of inflation is starting to manifest itself in consumers’ wallets throughout the country. Weeks after the Brexit decision, several UK consumers have been up in arms as long-time favorite spread Marmite was taken off the shelves when suppliers and distributors had a row on pricing. In several grocery stores, significant price increases were already made on basic ingredients and household supplies, causing some to cut back on their purchases or substitute cheaper goods.
Core retail sales in November posted a meager 0.2% uptick, lower than the projected 0.4% gain and the previous 0.6% increase, which already suffered a downgrade from the initially reported 0.8% increase. Headline retail sales had a feeble 0.1% rise versus the 0.3% consensus and the previous 0.6% climb. Components of the November report showed that nine out of 13 major retail categories still saw gains, led by restaurants and furniture stores.
Analysts project that these price gains are just the tip of the iceberg, as the pound’s depreciation throughout the latter half of 2016 may lend more upside pressure on domestic price levels. After all, a weaker local currency means that importers have to pay more pounds in order to purchase the same goods from their international counterparts, and these costs are passed on to consumers. Number crunchers say that annual CPI may even surpass the Bank of England’s 2% target next year, leading some to speculate that some form of policy tightening may need to be made.
However, the uncertainties surrounding the Brexit negotiations may leave policymakers sitting on their hands for much longer. The risk of losing access to the single market may mean tremendous losses for local businesses, which may further dampen consumer confidence and spending. With that, the UK economy might need to deal with a double whammy of tight spending and downbeat business prospects, both of which aren’t exactly positive for overall economic growth.
Still, businesses seem optimistic for the time being, as Lloyds Bank’s business confidence index for December climbed to its highest level since March. This is a positive sign, considering how most companies had shown signs of anxiety leading up to the US elections in November. Senior economist at Lloyds Bank Hann-Ju Ho noted that confidence this year has remained afloat compared to the slump back in the 2008 financial crisis.
For now, investors and consumers are on edge and awaiting how the Brexit negotiations might turn out. Further pound depreciation on speculations of a hard Brexit may mean stronger inflationary pressures which may force households to scale back their purchases even more. On the other hand, hopes of a smooth negotiation process and potential concessions to keep the UK economy in the single market may provide some relief.
Uncertainty may persist for the next two years, even as Article 50 is invoked within Prime Minister Theresa May’s timeline in the first quarter 2017, as the negotiations may be lengthy and may keep the economy in limbo. This may translate to persistent downside pressure on the pound and upside pressure on price levels, leading UK consumers to keep their hands in their pockets. Spending on big-ticket items such as cars, homes, and furniture may be subdued as Brits save their money for essential items instead.
Then again, expectations of higher prices down the line may encourage consumers to spend now rather than waiting longer. Of course this behavior isn’t likely to be sustained as price gains may soon catch up with spending power unless the central bank acts. Keep in mind that there are other global forces in play, as the OPEC’s output deal to curb production for the next six months may produce upside pressure on crude oil and energy products, translating to higher transportation costs and global inflation as well.
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