Tuesday, April 17, 2007
3.1% - and a letter
Posted by David Smith at 10:00 AM
Category: Thoughts and responses

Consumer price inflation hit 3.1%, the figure needed to trigger a letter from Mervyn King to Gordon Brown. This is a big moment for the Bank, the first time in nearly 10 years of independence that inflation has moved more than a percentage point away from target. RPI inflation hit 4.8%. The Bank's letter will appear on its website at 10.30.


Dear David,

3.1 percent and a letter.

My hunch is the letter contains at least once a statement along the line of " ITS THE ECONOMY STUPID !!!!"
Dear gordon were really sorry to inform you that we are no longer able to support your election campaign. Whilst we have made great endavours in softening harsh economic indicitors, greater financial forces outside our remit have now taken charge. As a labour politician your quite familiar with the eventual outcomes of previous labour governments regarding debauching our currency.
We wish you the best of luck in your new job whatever that may be.

Regards Merv and gang

Posted by: arik schickendantz at April 17, 2007 10:54 AM

I voted for a rate hike on account of inflation.

Interest expenses in firms are likely to push up prices and therefore create a circular motion that will encompass all economic activity. I do agree with David comments on the shed!
and we are entering into a inflationary phase which will fail to further strengthen the GBP and like Gold vis-a-vis other metals the separation will occur when the GBP will lose its value and become synonymous with the dollar trend.

Therefore i expect interest rates to peak to about 10% in view of the many rises that we could face.

Posted by: Hitesh Damani at April 17, 2007 11:50 AM

No doubt Danny Blanchflower voted for a rate reduction at the last BoE meeting. That bloke really is an areshole.

Posted by: Trevor at April 17, 2007 01:00 PM

Spot on Hitesh, and it is this feedback loop that the Bank have underestimated. Unprecedentedly high levels of business debt mean that rate hikes turn into price hikes, and hey presto, CPI exceeds their expectations. The only logical response is to lend less money, but unfortunately that is well outside of the MPC's control.

Posted by: Minh at April 17, 2007 01:01 PM

The words of the letters are just platitudes. What matters is the action that the MPC takes at its next meeting, and at subsequent meetings. A competent employee or contracted organisation supplying a service would be expected to take action when they don't meet agreed targets. Surely the MPC should act with at least that degree of competence.

Posted by: William Shears at April 17, 2007 01:14 PM

Well what a surprise, we have breached 3%. I am genuinely surprised as everyone seems to accept that the figure is fudged and does not represent the cost increases they are seeing in trying to live.

Gordon Brown and his cronies like Balls, have manipulated the economy for ages and this is simply the start of greater imbalances we will see.

Why has the bank not done anything when we have had shocking money supply figures for so long???

Now, the conomy is going to have to pay the price and all manipulation in an economy can only last so long.

The recession these idiots tried to "put off" is now just going to run 10 times deeper.

Posted by: Gordonron at April 17, 2007 02:17 PM

All getting a bit overheated here. Read the letter from the governor and calm down. Inflation at 3.1% is disappointing but not a disaster. Talk of 10% interest rates and impending recession is, quite frankly, bonkers. Inflation is up partly because of special factors (watch those furniture prices come down in April) but also because the economy - UK and globally - is growing very strongly.

Posted by: David Smith at April 17, 2007 04:31 PM

When Merv referred to food price inflation, he appears to have missed an important factor - the bioethanol revolution in the Americas is inflating food prices. There are surely other factors coming into play as well, such as industrialisation, rural depopulation, etc.

I also feel that Merv and crew should be concentrating more on the housing market (oh no, not their remit - sorry ;-)) - they are claiming that the housing market is cooling (this issue came up recently when an agent was interviewing me), despite highly contradictory indicators coming from the property sector. Actually, it could be argued that the housing market is heating up at the moment, and has been for the last couple of months. Why am I concerned? I'm a businessman and am losing my most talented young employees abroad as they're not willing to enter the housing market on such ridiculous terms - 8 times income anyone? Madness. So, in effect, house price inflation is deskilling my company!

I've lost confidence in the BoE.

Posted by: Lukenazeshradson at April 17, 2007 06:08 PM

Dear David,
To be fair to the MPC, an interest rate increase during the April meeting would have done nothing to change the 3.1% inflation rate (although it would have probably calmed down some of the readers above).

Interestingly, the 3.1% CPI inflation rate suggests that CPI inflation has been 2.87% for the first quarter of 2007, which is in absolute line with the 2.9% central projection (i.e. the most likely outcome) made by the MPC under the assumption of a 5.25% base rate. Therefore, on a positive note, looks like the MPC has done their job extremely well in predicting where the economy is going.
Costas Milas
Keele University

Posted by: Costas Milas at April 17, 2007 06:15 PM

I read in the FT that other day that food retailers are acting to restore profit margins and respond to rising costs - their not taking cost increases on the chin anymore!

Many of the new oil substitutes, such as ethanol, rely on food components in their manufacture. RWE npower is considering converting its power station to run on palm oil - a food that's currently found in around 1 in 10 of all supermarket products.

Meanwhile non-food use of rapeseed oil became more important than food use for the first time last year as demand rose for its use in biodiesel production.

I could go on and give umpteen other examples, but don't wish to bore you.

This demand for biofuels will continue for many years. Food prices will feel the impact. George Mobiot warned us all about this over a year ago, but Merv obviously wasn't listening.

Wake up Merv!

Posted by: Lukenazeshradson at April 17, 2007 06:18 PM

Apologises for the spelling errors in my posting above - it's been a tough day! Yes, I meant they're, not their, etc. BTW, The RWE npower station I referred to above, in Dartford, has dropped palmoil plans.

But loads of power stations are co-firing fossil and biofuels already, or preparing to - anticipating new regulations that encourage this practice. Drax is preparing to burn more biomass, for example. Up to 400,000 hectares of British land could be needed to provide the elephant grass, rape seed and other crops needed to provide the 1.5m tonnes of green fuel that Drax says it will need to burn to reach its target

The EU's 'Biofuels Directive' is driving biofuel use in Europe - It's a directive that promotes the use of biofuels for EU transport. The directive entered into force in October 2001, and stipulates that national measures must be taken by countries across the EU aiming at replacing 5.75 % of all transport fossil fuels (petrol and diesel) with biofuels by 2010.

Forgot to add above that I had a meeting with a BoE agent last year and clearly recall that he told me that the Bank was signalling that interest rates may not need to rise above 5% to steer inflation back to target. Oh dear me! Do you recall this anyone? I sometimes wonder whether the bank is being purposefully misleading.

Posted by: Lukenazeshradson at April 17, 2007 09:00 PM

The biofuel point is an interesting one, though the food price effect in the UK so far appears to be mainly a reflection of seasonal factors (last year's very dry summer) and a change in pricing behaviour by the supermarkets, rather than the rising cost of raw materials.

The agent you spoke to last year was only passing on what was then the MPC's published view, that 5% would be enough.

Posted by: David Smith at April 17, 2007 09:35 PM

Interesting and worrying...

It's now estimated that U.S. ethanol distilleries will consume 130 million tonnes of corn by 2008, or half the entire U.S. crop.

There are already around 115 ethanol plants in operation in the United States, plus around 80 under construction. Another 200 plants are in various stages of planning.

I understand that concerns have been raised by the IMF.

Posted by: Lukenazeshradson at April 17, 2007 10:11 PM

The only flaw in the biofuels argument is the oil price. Palm oil is probably the most cost effective vegetable oil out there - far more productive per acre than soya or other alternatives. Yet it only becomes economic to turn palm oil into biodiesel if the price of crude rises about $80 per barrel (and I've talked to senior palm oil industry people about this including those directly involved in the promotion of biofuels). If oil is below $80 per barrel then it requires subsidy in some from - whether direct or indirect (ie through a weighted fuel tax regime).
Add to that considerable concerns about the environmental impact of an expanded oil palm industry (millions of hectares of Indonesian rainforest are being felled on the pretext of planting oil palm - albeit the primary motive for the felling appears to be timber as many of the companies fail to make good their promises to plant oil palm after clearing primary forest - and massive CO2 emmissions from slash and burn by oil palm companies clearing scrubland or existing palms that are no longer productive - for which there is pretty strong evidence - particularly in Sumatra and Kalimantan) and Europe may think twice before pushing for biofuels willy nilly. An They come at a cost.

Posted by: Jonathan at April 18, 2007 03:31 AM

The fun thing from my perspective is why the Government allowed this to happen in the first place. If they were remotely bothered about the effect that this letter would have, wouldn't they have just played with the CPI basket a bit? Or have they already done this as much as they can without getting people's backs up!?

Posted by: Peter Allen at April 18, 2007 07:15 PM

To be fair to the ONS, the CPI basket is what it is, not something to be played about with. The basket is reweighted according to changes in spending patterns. Its shortrcoming is that it does not include housing costs, which is why I've always said the switch to CPI from RPIX was a mistake.

Posted by: David Smith at April 19, 2007 10:03 AM
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