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UK inflation: What do the latest data tell us?

Inflation rises to 2.5% as prices pick up from their record lows in 2020. Increasing food and fuel prices drove inflation to its third consecutive month of growth in June 2021. Supply shortages and low prices a year ago can explain this month’s relatively high inflation.

Inflation ­– the rate at which prices are rising – was 2.5% for the 12 months leading up to June 2021, according to the latest data from the Office for National Statistics (ONS). This is up from 2.1% for May 2021 and is the third consecutive month of significant growth. This is the highest level of inflation for nearly three years. But the increase can mostly be explained by the unusually low prices seen in the first lockdown 12 months ago, making today’s prices appear a lot higher in comparison.

Figure 1: Inflation rates in the last decade

Source: Office for National Statistics

Most of this recent growth in inflation was driven by goods and services that have bounced back this year compared with when prices fell in 2020. For example, on average the prices of food, transport, clothing, eating out and fuel have all increased. This was offset partially by a fall in the price of goods that rose in cost during the first lockdown, such as toys, games and other products related to hobbies.

Compared to 2020, prices have risen significantly, but compared with pre-pandemic prices they are relatively stable. For example, the price of a litre of petrol has risen by 23p since June 2020 (from £1.07 to £1.30) but only by 1p compared with June 2019 (from £1.29 to £1.30).

The current high levels of inflation are likely to only be ‘transitory’ – as each month of new data sees a month of 2020 data ‘drop out'. For example, these new data add the latest inflation figures since May, but also now exclude the data from over a year ago (i.e. May-June 2020 ‘drops out’). Further, some predict that inflation is likely to rise until early 2022 and then come down again because the unusually low prices of 2020 will have ‘dropped out’.

The largest contributor to inflation came from transport, contributing 0.11% of the 0.5% rise – its highest contribution since November 2011. This was due to falling prices last year, where reduced travel saw petrol prices hit a four-year low. Prices picked up in 2021, with inflation for motor fuels at 20.3% for the year – the highest since 2010. Second-hand cars also contributed to transport prices, with global supply shortages of microchips slowing the production of new cars. This has increased the demand for used cars and thereby their prices.

Other contributors were clothing and footwear (which contributed 0.06%), as well as food and non-alcoholic beverages (0.08%). Clothing and footwear usually see a seasonal fall in prices at this time of year – the summer sales – but the timing of lockdown easing meant people were back shopping regardless of any sales, countering this seasonal trend.

Figure 2: Inflation levels by sector

Source: Office for National Statistics

The Retail Price Index (RPI) – another way of measuring inflation which excludes housing costs – was up from 3.3% in May to 3.9%. This is important as many pensions’ values increase in line with the RPI inflation rate, which is almost always higher than the Consumer Price Index (CPI) rate.

While these figures seem high for the UK, inflation in the United States currently sits at 5.4%. The contributors to US inflation are different to the UK, with the trade-war with China having a direct impact on the prices of some goods through increased tariffs. There is a chance that US inflation may spread to other countries, as many world prices are denominated in US dollars. But this remains to be seen and will depend on dollar exchange rates with other currencies.

What happens next?

At 2.5%, UK inflation is above the country’s 2% target. But it is within one percentage point of the target and does not yet warrant an explanatory letter from the Bank of England to the Chancellor of the Exchequer. Andy Haldane, departing Chief Economist for the Bank of England, predicts that inflation could reach almost 4% this year, while the National Institute Of Economic and Social Research (NIESR) predict there is a 1 in 10 chance that inflation could exceed 5%. For context, inflation has remained below 4% since 2012.

The Monetary Policy Committee have tools to control inflation and have not yet acted on this current change. The committee predict that inflation will temporarily peak at slightly above 3% this year as the economy transitions ‘back to normal’. Interest rates – the cost of borrowing from the central bank – are the main tool to control inflation and currently remain at their 0.1%.

The Monetary Policy Committee next meet on 5 August 2021 to decide the base interest rate . As it stands, inflation is within the target range (1 to 3%) and can be explained by last year’s supply shortages and low prices. UK inflation is not as high as in the United States, and the Monetary Policy Committee have the tools at hand to prevent inflation rising continuously. But it will not be until early-2022 before we have a more stable picture of post-pandemic inflation. Until then, the committee’s base rate decisions can give an insight into future expectations.

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Author: Max Wood

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