19th September 2019
Why modern monetary theory is foolhardy and dangerous
- UK inflation figures from the ONS surprised sharply to the downside this morning, with the annual rate of targeted CPI easing from 2.1% to 1.7% in August. Both consensus and Investec Economics had forecast a more moderate paring back to 1.9%. Notably, this was the weakest CPI outturn recorded since December 2016 and took it out of the 1.8 - 2.1% range it had sat within for the previous eight months. Meanwhile, the ‘core’ CPI measure (i.e. excluding food, energy, alcohol and tobacco prices) also saw a similarly sharp drop from 1.9% to 1.5%.
- As we anticipated, ‘recreation and culture’ prices were the predominant downward influence in August, with the category subtracting 0.19 percentage points from the annual rate of CPI. Note though that this was mainly due to the volatile computer games sub-component, which slumped 5.0% month-on-month in sharp contrast to a marginal 0.1% decline seen in the same month a year earlier. Also weighing down on inflation were ‘clothing and footwear’ prices which knocked 0.09 percentage points from CPI as the introduction of autumnal ranges saw prices rise to a lesser extent than in 2018. Most other categories exerted a more modest downward effect with the exception of ‘food and non-alcoholic beverages’ which was the sole major upward contributor this month.
- Softness was also evident in August’s producer price figures. Input prices fell 0.8% on the year after having risen 0.9% in July. This was the sharpest fall recorded since May 2016, albeit mainly weighed down by sterling-denominated crude oil prices which registered their fourth consecutive annual decline. Meanwhile, factory gate price inflation eased back to 1.6% from 1.9% in August and - stripping out food, beverages, tobacco and petroleum - the ‘core’ measure was steady at 2.0%. But though there is currently little sign of pipeline inflationary pressures, this year’s weakness of sterling threatens to push up the price of imported goods and services. Indeed, the Bank of England’s sterling effective exchange rate fell for the fifth successive month in August to leave the index standing at the lowest since October 2016. Though it has seen a modest recovery in September, the month-to-date average is still down 2.4% on the year.
- This morning’s soft CPI figures saw sterling come under further selling pressure, with cable dropping around 30 pips in the immediate aftermath of the release. However, we doubt that today’s numbers will materially shift the MPC’s assessment of inflationary dynamics. In fact, the Bank had even forecast that inflation would be a softer-still 1.6% this month in its most recent set of projections. If anything, we suspect that its tightening bias will be reinforced by the emergence of pay pressure in the labour market, with headline wage growth firming to 4.0% (3m yoy) for the first time since 2008 in July. Overall though we judge that the Committee will refrain from raising Bank rate until it can be reassured that a no-deal Brexit and a significant global downturn will be avoided. We look for this to be reflected in tomorrow’s policy decision, with our full preview available to read here: BoE MPC preview – still occupying an unusual, mid-Atlantic position.