At long last, Britain’s annual inflation rate is on the way down. After hitting the highest level since the 1980s, heaping pressure on millions of households as living costs soared, official figures this week could bring some rare good news.
City economists expect UK inflation to have cooled for a third month running in January – the exact number is announced on Wednesday – helped by falling petrol prices and a broader decline in the global price of oil and gas in recent months. The hope now is for a sustained decline in the months ahead, continuing a steady drop from the peak of 11.1% seen in October.
The message from the Bank of England has been clear. Inflation is on track for a “rapid” decline over the coming months, raising hopes that the worst of Britain’s cost of living crisis is now in the rearview mirror.
There are two good reasons for this. Energy costs are moving in the right direction, while the initial rise in wholesale oil and gas prices that followed Russia’s invasion of Ukraine in February last year will soon drop from the calculation of the annual inflation rate.
Rishi Sunak’s government may have a “plan” to halve Britain’s inflation rate this year. But it is for these reasons outside the government’s control that inflation is falling. Barring any big shocks around the corner, Silvana Tenreyro, a rate-setter at the Bank, says these factors mean falling inflation is “pretty much guaranteed”.
However, the road ahead is far from clear. The cost of living remains eye-wateringly high, with millions of people facing poverty this year. A drop in inflation does not necessarily mean prices are falling for consumers; it is just that the annualised rate of growth isn’t quite as fast as in the previous month.
Despite narrowly avoiding a recession in the final three months of 2022, economic growth will crawl along close to zero as high prices for goods and services, alongside higher borrowing costs set by the Bank, weigh on growth.
Analysts are still pencilling in inflation above 10% in January, the fastest rate in about four decades. Yet it could be the final month of double-digit price growth, with forecasters betting the only way is down.
“We have to remember that so much of the increase in headline inflation was down to energy,” says James Smith, an economist at the Dutch bank ING. “If the forecasts are right, gas prices will stay down, and bills will fall this summer, so you could get inflation back to the Bank of England’s 2% target by the end of the year. Which is hard to imagine given where we are now.”
However, after being caught out by a succession of economic shocks, caution remains. Andrew Bailey, the Bank’s governor, warns that the central bank’s inflation forecasts contain the biggest risk of inflation remaining high in the institution’s history.
Part of the worry is in the jobs market, where Threadneedle Street’s economists will get another key update this week, with official figures for the three months to December.
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For the year ahead, the expectation is that an economy struggling for momentum will see dwindling hiring demand from employers, and so weaker wage growth. However, should the jobs market remain robust, and companies confident enough to keep putting up their prices, higher rates of inflation could persist.
Most economists think it will be too early to tell from this week’s jobs figures alone, with expectations growing they will show that wage growth, before inflation is taken into account, rose slightly. Yet there are signs from business surveys and evidence gathered from the Bank’s network suggesting that steam is going out of the jobs market.
Wage growth will also remain below current high inflation rates for some time yet, meaning a severe hit to living standards for millions of workers – especially in the public sector, where pay rises are half the rate of those in the private sector.
There may be some rare good news for inflation, but it is only one small step forwards. Despite an expected fall in the annual inflation rate, Britain’s cost of living crisis will take much longer to recover from.
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