Where’s inflation heading? Don’t ask the Bank of England. It’s been completely wrong for ages. If you really want to know, try asking the general public instead.
Today’s quarterly Bank of England/GfK Inflation Expectations Survey did just that, taking the average answers from around 2,000 people across the UK. Chances are the Bank won’t like them. Because the message is clear: the public still doesn’t trust its forecasts.
No wonder. In August 2009 the Bank’s economists predicted that UK CPI (consumer price index) inflation would be around 1.5% by now. Last year, the official forecast for today was still around 2%.
In fact, in August 2011, the CPI was rising by 4.5% a year. That’s up from 4.4% in July. It equals the highest level since October 2008. And it’s well over twice the Bank of England’s 2% target.
Meanwhile, August RPI – the retail price index, which includes housing costs – was up by 5.2% on a year ago, compared with 5.0% in July.
Clearly the Bank, despite all the data at its disposal, has been very wide of the mark. So why should we believe it when it says that CPI will drop to around 2% by this time next year?
The British public has a much better track record. A year ago, they reckoned CPI would be rising by 3.4% a year by now – that’s a much closer estimate than the Bank’s.
Now the survey sees a 4.2% increase in the UK’s cost of living over the next 12 months. Over the next five years, the public reckons inflation will stay at around 3.5%. That’s up from 3.3% in the last survey in May.
It gets worse. By a massive margin of 68% to 5%, survey respondents believe Britain’s economy will end up weaker rather than stronger if prices start to rise faster. What’s more, this gap is widening: in May it was 67% versus 7%. In other words, the public is becoming more convinced that higher inflation will do more harm than good.
All very uncomfortable reading for the interest rate setters on the Bank’s Monetary Policy Committee. Look at this chart:
Source: Bloomberg
UK CPI inflation is in red. And the latest BoE/GfK survey view for the next year (that 4.2% we mentioned above) is shown in purple.
Note two things here. First, I’ve advanced the survey result by two months to reflect its predictive power. Second, you’ll see that when the purple ‘expectations’ line rises, UK CPI tends to go up even further.
Indeed, this is where the danger really lies. As people get more used to higher prices, they become more prepared to pay them. A climbing ‘cost of living culture’ starts to embed itself into the system. People start to demand higher wages to compensate. And rather like a nasty household infestation, the resultant rising inflation can then prove very hard to remove.
Sure, the UK bank rate is likely to stay at 0.5% for a good while yet. But the Bank of England shouldn’t fool itself. The general public is getting more and more worried that UK inflation could soon get out of control.
For savers, though, a shred of good news has just appeared. And Merryn has blogged about it here.
Category: Economics