Inflation still likely to drop below 2% target by the autumn – ITEM Club

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Andrew Goodwin, senior economic advisor to the EY ITEM Club, comments on today’s CPI inflation figures:

  • The upside surprise appears to reflect short-term seasonal factors
  • Higher oil and food prices point to inflation remaining stickier in the short-term
  • But significant base effects mean that inflation should still drop below 2% in the autumn

“This is the first upside surprise that we’ve had for several months. This appears to come from some unusual seasonal effects. Summer sales have taken place earlier than normal in the clothing sector and the regular summer increase in air fares have also come through a little earlier. Given how persistently weak consumer demand has been, and that airlines’ cost pressures will have eased through the year, it is difficult to make a case for the unusually large increase in air fares being anything other than temporary. It should unwind over the next couple of months.
“However, movements in global commodity markets do mean that inflation is likely to be stickier in the short-term. Oil prices are more than $10 per barrel higher than at this time last month and there is already evidence that this is beginning to feed into petrol prices, with most industry surveys reporting increases of 2-3 pence per litre between July and August. Similarly food prices seem likely to nudge upwards in response to the US drought.
“Nevertheless, there are significant base effects due to come into play in September, as last year’s utility price increases drop out of the year-on-year calculation, which should mean that inflation regains its downward momentum. Providing that neither oil nor food prices surge upwards then we should still see inflation drop below the 2% target in the autumn and remain there. This should finally take inflation back below wage growth and end a five-year real wage squeeze for the UK consumer.”