MNI INTERVIEW: Sustained Wage Gains Threat To UK Price Outlook

by Laurie Laird

(MNI) London - UK prices pressures could mount in coming months, but the economy has yet to flash any 'red lights' warning of a prolonged period of above-target inflation, although any sustained increase in wages could become problematic, the chief economist at the Office for National Statistics told MNI in an interview.

Inflation could become problematic "if some of these higher prices persist, but we're probably not at that point," said Grant Fitzner, who also serves as ONS director of macroeconomic statistics and analysis.

"We're seeing a period of pent-up demand and a shortage of supply, and we don't know how long that will last," he said. "On goods, there's a limit to how many sofas and TV's we can buy. We don't know as much about services, but there are natural limits to these things. I would expect [consumption] patterns to return to normal."

"We're not saying that it's all transitory," Fitzner said, "there is some evidence that supply constraints could last," making special mention of the global semi-conductor shortage. But public expectations of inflation remain subdued. "We're not seeing any significant pick-up in expectations," Fitzner added. "We're not seeing any red lights flashing yet."

WAGE GROWTH

However, the bigger risk to inflation forecasts comes from the prospect of "a sustained increase in wage settlements," said Fitzner. Earnings have skyrocketed in recent months, although largely a reflection of compositional effects that saw lower-paid workers more likely to lose employment during the pandemic.

Total regular earnings surged by an annual rate of 5.6% in the three months to April, the biggest increase on record and the BOE expects 12-month regular pay growth to rise to nearly 8% in Q2.

But "the underlying pace of wage growth is" approximately 3%, according to Fitzner, a level he considers to be "not inflationary." Wage growth could become problematic "if you start to see high settlements, but we're not seeing that at the moment," he added.

Driven largely by energy costs recovering from pandemic-era lows, consumer prices rose 2.1% y/y in May, topping the Bank of England's 2.0% target for the first time in 21 months., while core inflation hit 2.0% in May, the highest level since August 2018. "But history suggests that" rapid acceleration of price pressures "in most cases tends to wash out," said Fitzner.

The BOE sees the CPI rise above target as temporary, returning to around 2% over the medium term. However former Bank Chief Economist Andy Haldane, who stepped down last month, has warned against complacency in the face of rising inflation. Accepting the pick-up in inflation has been "sharper" than expected by both the BOE and private forecasters, Fitzner said the pick-up from a sustained period of below-target inflation "is a nice problem to have. Inflation is a natural side effect of a buoyant economy."

FACTORY GATE PRICES

The ONS remains fairly relaxed about the recent surge in pipeline pressures. Input PPI surged by 10.7% in the year to May, while output PPI rose by 4.6%, the fastest pace since January of 2012.

"Input prices are back to very high levels, but we haven't seen it flow through," said Fitzner, noting that surging intermediate prices following the 2016 Brexit vote "mostly didn't flow through. Retailers can be reluctant to pass through margin compression."

In early 2017, input prices rose at a rate of nearly 20% y/y, while output PPI rose to 3.7% y/y. CPI hit or topped 3% over the four months ending in January 2018, before falling below 2% by early 2019. Economists are detecting some signs of supply bottlenecks that could persist after the base effects from last year's plunge in crude oil prices drop out of annual comparisons. Fitzner is less concerned, saying "most supply shocks tend to be short-lived."