UK inflation has reached a level not seen in four decades. Rail workers are striking; and teachers and NHS staff will soon be asking for pay increases that keep up with rising prices. With no signs of easing in the UK’s cost of living crisis, the economic outlook is bleak.
Newsletter from 24 June 2022
Midsummer’s day is here, but the UK economic news is unremittingly wintry. Food and fuel costs continue to push higher. National rail strikes presage a long season of industrial action as workers and their trade union representatives demand pay increases that keep up with rising prices. Higher interest rates, as the Bank of England tries to deliver on its central objective of returning inflation to an annual rate of around 2%, risk weakening a fragile economy and perhaps tipping it into recession. And on top of all that, there is the self-inflicted harm of Brexit – disrupting goods and services trade, business investment, the post-pandemic recovery, and much else.
We have covered many of these challenges at the Economics Observatory in recent weeks and months. Early in the year, Delia Macaluso (University of Oxford) and Michael McMahon (also Oxford and one of our lead editors) explained how Covid-19-induced shortages of goods and increases in labour, energy and transport costs in global supply chains were contributing to initial inflationary pressures around the world. Russia’s invasion of Ukraine and European efforts to move away from dependence on Russian oil and gas have led to even higher energy prices, as discussed in pieces by Erkal Ersoy and Christopher Aitken (Heriot-Watt University) and by Helen Thompson (University of Cambridge).
The war is also having a big impact on global food prices, as explored this week on the Observatory by Lotanna Emediegwu (Manchester Metropolitan University). As he describes in this and an earlier analysis of the effects on global food security, conflict in the ‘breadbasket of Europe’ is driving up food prices for the continent and the wider world. But developing and emerging economies are being hit hardest due to their reliance on the region for fuel and grain imports. Crop shortages and price hikes in these countries could spur further political turbulence and even violence.
Double trouble
Back in the UK, the consumer price index hit an annual inflation rate of 9.1% in May, the highest since March 1982, according to new data from the Office for National Statistics (ONS). Observatory manager Charlie Meyrick considers what this means for the cost of living crisis, particularly for lower-income households, as well as the industrial action by the National Union of Rail, Maritime and Transport Workers and potential strikes in other parts of the economy. These are issues to which we will return in the coming weeks.
Figure 1: CPIH, CPI and OOH inflation rates (May 2012 to May 2022)
Source: ONS
Note: CPIH – consumer price index including owner occupiers’ housing costs; CPI – consumer price index; OOH – owner occupiers’ housing costs
Elsewhere, there’s been some good coverage of the inflation data and their implications for monetary policy and public sector pay. Our colleagues at the National Institute of Economic and Social Research (NIESR) note the key role of rising food prices in keeping inflation at this historic high – and like the Bank of England, they expect the annual rate to reach double digits before turning down. Chris Giles at the Financial Times notes that just a year ago, inflation appeared under control, and blames central bankers for complacency about what was coming. And Soumaya Keynes at The Economist and Paul Johnson at the Institute for Fiscal Studies (IFS) separately anticipate some of the challenges for the government of trying to restrain public sector pay to curb inflation.
Looking much further back in history, another new piece this week gives a perspective on UK inflation over nearly a millennium. Jason Lennard of the London School of Economics (LSE) and Ryland Thomas at the Bank of England outline the challenges of measuring the rate of inflation facing different households, sectors and regions – and how past statisticians and commentators have sought to construct a price index. Gradual progress on measurement over the centuries by contemporaries and economic historians has improved our understanding of inflation over the long run, but much remains to be done.
Figure 2: UK consumer price level, 1086 to 2021
Sources: From 1209, the measure of consumer prices used in both charts includes housing costs (actual and owner occupiers’ rent) and is based on the aggregate expenditure weights of all households. From 1209 to 1830, it is based on the domestic expenditure deflator of Clark, 2015; from 1830 to 1949, it uses the consumers’ expenditure deflator based on Deane, 1968; Feinstein, 1972; and Sefton and Weale, 1995; and from 1949, it uses the long-run CPIH index recently produced by the Office for National Statistics. Between 1086 and 1209, the price index is a trend measure based on a more limited set of commodities based on Barratt, 1996, 2001, and Mayhew, 2013. Alternative measures of consumer prices such as the CPI and those based on the expenditure weights of the ‘working classes’ or wage earners can be found in Thomas and Dimsdale, 2017.
The final new Observatory contribution this week draws our attention away from rising prices to focus on falling prices – specifically those of cryptocurrencies like Bitcoin and Ethereum, which have been plummeting in recent weeks. William Quinn (Queen’s University Belfast), who late last year wrote a punchy piece for us on why the price of Bitcoin has risen/fallen in the past day/week/month, now clarifies why the latest movements are steeply downwards. While the weak state of the global economy has triggered the crash, its root cause is that cryptocurrencies have always been fundamentally unsound long-term investments. They have no intrinsic value – and like pyramid schemes, they require a continuous flow of new investors to sustain prices. That flow has dried up.
Figure 3: Bitcoin price (dollars), June 2019-June 2022
Source: Yahoo! Finance
Safe European home
Another ill-advised scheme is also revealing serious signs of stress. It is six years this week since the referendum vote for the UK to leave the European Union (EU) – and our colleagues at the Centre for Economic Policy Research (CEPR) have marked the sad occasion with an ebook on what Brexit has meant for the UK economy. Next week here, we’ll have a piece by the publication’s editor Jonathan Portes (King’s College London and UK in a Changing Europe) on the impact of the post-Brexit immigration system. Overall migration numbers have not changed much since when the UK was an EU member, but the provenance, skills and sectoral mix of migrants is starting to look substantially different.
Previous Observatory articles on Brexit include explorations of its impact on Northern Ireland’s economy, Welsh ports, Scotland’s fishing industry, competition policy, Premiership football, hate crime, earnings inequality and the role of sterling in UK trade.
This week, our colleagues at the Centre for Economic Performance (CEP) at LSE have published evidence on the dramatic fall in the value of UK imports from the EU relative to the rest of the world after the Trade and Cooperation Agreement came into effect, as well as the destruction of many smaller trading relationships. A separate CEP study shows that leaving the EU’s single market and customs union has led to a 6% rise in food prices in the UK.
One final big news story this week has been European leaders’ approval of Ukraine as a candidate for EU membership. A recent Observatory piece by Richard Disney and Erika Szyszczak (both University of Sussex) considers the economic differences that EU membership would bring. They note that existing agreements between Ukraine and the EU have already promoted substantial trade flows. Accession would have bigger implications for freedom of movement of capital and workers – investment inflows and migration outflows – and these areas are where negotiations are likely to focus.
Young at heart
The Royal Economic Society (RES) young economist of the year competition closes next month. Essays of up to 1,000 words can address some of the big issues we discuss on the Observatory, including cryptocurrencies, the cost of living crisis and the ‘levelling up’ agenda for tackling regional inequalities – on which we will have a new piece by CEP’s Henry Overman and Helen Simpson (Centre for Evidence-Based Public Services, CEPS, University of Bristol) early next week.
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