16th June 2015
Higher transport costs, particularly airfares, pushed the UK inflation rate to turn positive in May after one month of negative inflation.
The Consumer Prices Index (CPI), rose to 0.1% in May, up from -0.1% in April, according to the Office for National Statistics. Rises in food and petrol prices also contributed to the rise after April saw CPI inflation turn negative for the first time since 1960.
Ben Brettell, senior economist at Hargreaves Lansdown says: “We’ve gone from deflation to inflation in the space of a month, but the change is little more than a rounding error. Seasonal factors surrounding the timing of the Easter holiday were at work in last month’s figures – CPI inflation was pushed down by cheaper air fares relative to last year. Now those factors have dropped out of the calculation we are back where we started.
“The overall economic picture hasn’t materially changed; inflation is being kept low by cheaper fuel and a supermarket price war pushing food costs down, but both these factors are moderating and can be expected to gradually have a lesser impact on CPI.
“Bank of England governor Mark Carney said in the Bank’s annual report on Monday that inflation would soon rebound – however, given that the Bank sets monetary policy to meet its inflation target in the medium term, it should not come as too much of a shock to hear its governor stating that inflation will return towards the target. We will gain a further insight into thinking at the Bank when the latest policy meeting minutes are released tomorrow.
“Core inflation, which strips out volatile components such as food and energy prices, rose slightly to 0.9%. This shows that even accounting for the dramatic fall and partial rebound of the oil price, inflationary pressures in the economy remain weak. Consequently there is still little pressure on policymakers to raise interest rates in the short term, with the first rise pencilled in for the first half of next year at the earliest.
“Focus now shifts to tomorrow’s labour market statistics, released at 9.30am. The unemployment rate is expected to hold steady at 5.5%, but average wages growth (excluding bonuses) is expected to jump from 2.2% to 2.5%. Having spent most of the aftermath of the financial crisis in the doldrums, the last few months has seen a sustained pick-up in the rate of wage growth. If this trend accelerates it could support the case for higher interest rates sooner rather than later.”
Sterling drops back against dollar
Andy Scott, associate director at foreign currency specialists, HiFX, says: “Sterling dropped back from a three-week high against the dollar on Tuesday after UK inflation data came out in line with expectations and government house price data showed a sharp drop in the pace of annual price increases. Looking at sterling versus the dollar – which had been trading above 1.56 prior to the release of CPI – it seems the market was expecting a bigger increase in inflation than the 0.1% rise. GBP/USD fell by around half of a percentage point and GBP/EUR fell by almost the same.
“The lack of price pressures serves to support the views of the majority at the Bank of England (BoE), who feel that an interest rate rise is not likely to be warranted until next year. This week’s employment data may however indicate that despite the lowflation environment, the strength of the jobs market is starting to feed through into higher wage growth with average earnings expected to rise to 2.5% in April. That would be the fastest pace in six years, boosting household disposable income and potentially leading to higher spending and domestic demand. This is one of the metrics the BoE said they will look at for signs of future inflationary pressures.
“We’ll see whether this has shifted one or two members of the MPC to begin voting for a hike again when the minutes are released Wednesday morning alongside the employment data.”
Commodity prices to drive up inflation
Shaun Port , chief investment officer at Nutmeg, the investment platform, says: “Like the Bank of England, we expect commodity prices to rise and inflation to pick up noticeably towards the end of the year. Critical to this judgement is the outlook for wages growth which has already begun to accelerate. Meanwhile, food prices were up in May for the first month this year. More broadly, there is an increasing market realisation that the recent global deflation period is passing. So while the Bank of England governor may well have to write another letter to the Chancellor explaining why inflation is undershooting its 2% target, there are good reasons to expect inflation to track higher from here:
“Private sector wage growth continues the recovery begun in mid-2014 where annual wage growth was under 1%. The latest data for March shows annual growth was averaging 2.7%.
“While oil prices are well down on levels one year ago ($59 vs $110), they have been stable for almost six months, moving in a narrow band between $47 and $62. So the disinflationary impact of oil prices is fading.
“The strong upward trend in the UK’s exchange rate against its trading partners is showing signs of exhaustion – especially vs the Euro since March this year. So the inflation-dampening effect of a stronger currency is also waning.
“While agricultural and grain prices are still weak, the El Nino weather conditions will put upward pressure on these through the rest of 2015 and into 2016. Livestock prices have already risen from their early 2015 lows.
“Borrowers need to consider the impact of this on future higher mortgage rates. And savers need to consider the impact of weaker bond prices (higher bond yields) will have on their investment portfolios. Nutmeg has positioned its clients to be protected from the full force of higher interest rates, inflation and wages. Balanced client portfolios have an underweight exposure to bonds and an associated overweight to equities. And the bond exposure that remains has a lower than average sensitivity to changed bond yields.”