Inflation is the most pressing issue for many of us as the cost-of-living surges. How high can it go and how long might it last
Tuesday 26th July 2022 Author: Owen Foulkes
The current elevated levels of inflation across the world, having initially been declared ‘Transitory’ by the chairman of the Federal Reserve in USA, Jerome Powell, now look to be both higher and ‘stickier’ than expected.
Being faced with crisis after crisis, Central Bankers around the world are now scrambling to react and amend their policies in an attempt to try to control inflation, but it all may be too little too late, with surging energy and food costs causing a global cost of living crisis.
Successive interest rate rises in the US and the first increase by the European Central Bank in over 11 years are likely to be just the start of policy intervention, but interest rate rises can only have so much impact, and the danger of higher borrowing rates strangling economic growth make this type of policy action a fine balancing act.
The End Of The World As We Know It
Since the 2008 financial crisis, the world has become used to low inflation and even lower interest rates. It seems strange to think that until very recently the prospect of interest rates remaining lower for longer was a significant concern for policy makes and financial markets.
The unusually long period of low interest rates had not led to an increase in inflation until the Covid pandemic arrived, disrupting supply chains and changing consumer shopping behaviours almost overnight.
The recovery from Covid and a slow return to normality led to supply chain and material pressures, and this was the start of the steady spiral of cost increases, now feeding through to our everyday spending.
The second shock then came in the form of the Russian invasion of Ukraine, leading to a huge increase in energy and food costs. The last ten years of worry about low growth and low inflation evaporated, replaced with a global struggle to contain the impact of surging prices.
The Cost Of Living Crisis
Inflation is measured each month by the ONS (Office for National Statistics), who look at the year-on-year increase in a basket of goods and services.
In May 2022, the Consumer Price Index (CPI) measure of inflation rose by 9.1% on an annual basis, the highest yearly increase since January 1989. This was also an increase of 0.7% on the previous month.
The three biggest components are housing and household services, which together make up 31.40%; transport, which also makes up 11.10%; and recreation and culture, which makes up 10.50% of the basket.
Housing costs including energy were the biggest contributor to May’s rise, jumping 13.2% on a monthly basis and 19.2% on an annual basis due to the well-publicised removal of the energy price cap.
It may be tempting to look at the increase in costs as a result of the war in Ukraine, but production and input costs were already rising significantly prior to the war and the impact of Covid and the restarting of the global economy in the last 12 months has been the main driver of inflation across developed nations.
Consumers have responded by shopping less, with Retail sales volumes down significantly over the last 3 months, meaning overall the amount we are spending at the supermarkets is falling.
A Long Tunnel Before The Light?
The expert consensus on how long consumers will have to bear the brunt of higher prices are mixed. Whilst some believe the peak in inflation may arrive before the end of 2022, there are many who believe that it is likely to stay at a higher level than we are used to for a long time to come.
At the start of the year, the Bank of England had forecast a top level of inflation of around 5%. However, their current projection for the Autumn is 11%, with some talk of inflation peaking at 15% before any significant reduction will be seen. We are all seeing the impact of inflation at the supermarket, petrol pump and in our monthly bills, and below inflation pay rises for workers mean that consumers are likely to continue to count every penny for many months to come.