Inflation fell less than expected in April. The UK consumer price index was 8.7% higher last month than in April 2022, down from 10.1% in March.
While the Bank of England expected a drop to 8.4%, the market consensus was even lower at 8.2% – given that wholesale energy prices have fallen sharply from the peak last spring, after Russia invaded Ukraine.
Headline inflation is now well below October’s peak of 11.1%, a 41-year high. But “underlying inflation” rose from 6.2% to 6.8% last month, indicating continued pressures on supply chain prices beyond volatile food and oil costs. energy. And that has been spooking the financial markets since the inflation figures were released last Wednesday.
Government bond prices plunged as investors bet heavily that the Bank of England will be forced to implement further interest rate hikes. The base rate is now expected to rise from 4.5% to at least 5.5% over the next few months, which will increase mortgage costs. That’s a huge turnaround – this time last week there was a widespread view that the next move in rates could be down.
But with US inflation at 4.9% and a eurozone average at 7.0%, the UK now has the highest inflation rate in the G7, alongside Italy. And for the first time in nearly 20 years, Italy can now borrow more cheaply than Britain, given how quickly Rishi Sunak’s administration is racking up debt.
A rise in the bill for benefits and public sector pay rises saw the government borrow £25.6billion in April, almost twice as much as the same month in 2022. The interest bill on l The UK’s spiraling national debt stock rose by £9.8billion in April alone, enough to build 20 new hospitals – even though those interest payments will be staggered over the coming years.
Eyebrows are raised over the sustainability of UK public finances as inflation drives up government borrowing costs – with gilt yields at levels last seen in the turmoil that followed last fall’s mini-budget.
And that begs the question: why is inflation in the UK so high? Far from being “transitory”, as the Bank of England has long insisted, price pressures in Britain are remarkably persistent.
One reason is our tight labor market – with over a million vacancies and a quarter of businesses with 10 or more employees reporting labor shortages. This pushes up wages – the private sector pays 7% more in the three months from January to March and the public sector pays 5.6%.
These wage increases drive the “second-round effects” behind “core” inflation, fueling broader price fixing while driving up business costs.
Skyrocketing grocery bills also play a role, with food price inflation still at an astonishing 19.1%. It’s not a UK-only problem – the same measure was 21.2% in Germany as recently as March.
But it’s strange that food bills are still rising so much, given that the global food price index compiled by the Food and Agriculture Organization of the United Nations, far from rising over the past 12 months, actually fell by a fifth.
With the food supply chain prone to delays, ministers must ask hugely powerful UK food retailers much tougher questions about the extent to which cost savings are being passed on.
Then there’s the Bank of England’s quantitative easing (QE) program – which generated £470bn of new money in 2020 and 2021, used to buy government bonds funding sweeping measures locking support.
That’s more QE in two years than in the previous decade since the 2008/09 financial crisis, when the policy was launched. And while pre-Covid QE remained in the financial system, inflating stock and bond prices, lockdown-era QE was, via furloughs and business support loans, channeled directly to businesses and ordinary households, creating a much larger wave of demand that drove up prices. .
That’s why this new variant of QE fueled headline inflation to a much greater extent than its post-2008 predecessor – as this column has often argued.
But I would argue that the main reason UK inflation remains exceptionally high is our still high energy costs. Monthly gas prices fell 1.0pc between March and April, according to the Office for National Statistics, compared to a rise of 66.8pc in the same two months in 2022 – as energy markets were reeling from the war in Ukraine. Electricity prices over the same period fell by 1.1 pc, compared to an increase of 40.5 pc between March and April 2022.
While these patterns help explain why CPI inflation has just fallen, energy in the UK remains comparatively very expensive, keeping headline inflation high.
The United States, for example, is benefiting from a huge expansion in domestic energy production, exploiting shale reserves. This is why wholesale gas prices in the United States were almost 80% lower than in Europe in 2022 and remain much lower today.
End-user electricity prices in the UK, however, at €46.65 per kilowatt hour, are still twice the European average – with prices at €27.18 and €21.01 respectively in France and Spain.
One explanation lies in ongoing ‘green levies’ on utility bills in the UK, used to subsidize the transition to renewables – charges which have been suspended during this difficult period in other major European economies.
The UK also uses a marginal cost pricing model, which keeps energy bills high. While it’s true that solar and wind power generated around a third of the electricity used in Britain in the first quarter of this year – slightly more than gas, in fact – the so-called renewables “cheap”, far from reducing energy costs, drive up prices.
Indeed, not only is renewable energy still heavily dependent on subsidies, but also on the availability of a large fleet of gas-fired power stations on standby, which can literally be turned on on the many days when the wind is not blowing and the sun is not blowing. not shine. bright. Running this dual system is extremely expensive and helps explain why the price of all electricity in the UK, regardless of its output, is determined by the spot price of gas.
The reality is that renewable energy companies make money from the intermittency problems they are supposed to be trying to solve, which gives them little incentive to come up with viable energy storage solutions.
And this, in turn, is one of the main reasons why, despite Ofgem’s ‘energy price cap’ being cut last week, the decline in wholesale energy costs is not will not translate into much cheaper electricity for businesses and households, and decisive declines in headline inflation, anytime soon.
Follow Liam on Twitter @liamhalligan
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