- Some helpful news for consumers’ purchasing power as consumer price inflation dipped to 0.5% in May, the lowest level since June 2016 and down from 0.8% in April, 1.5% in March and 1.8% in January
- Lower inflation is all the more welcome for consumer purchasing power given recent weaker earnings. Latest ONS data show that average earnings fell 0.9% year-on-year in April. The ONS also reported that real earnings fell 1.7% year-on-year in April and were down 0.4% year-on-year in the three months to April
- The drop in inflation to just 0.5% in May reinforces the EY ITEM Club’s belief that the Bank of England will provide more stimulus for the economy on Thursday – most likely through the announcement of at least a further £100 billion of asset purchases. The EY ITEM Club believes there is little likelihood of the Bank cutting interest rates from their current record low level of 0.10% on Thursday, even though the Governor and other MPC members have indicated the case for negative interest rates is being reviewed
- The EY ITEM Club remains doubtful that the Bank of England will ultimately opt for negative interest rates
- Inflation was primarily brought down in May by lower fuel prices as well as lower prices for recreation and culture goods (mainly games), restaurants and hotels and health. Core inflation moderated to 1.2% (the lowest since October 2016) from 1.4% in April. There was some upward impact from food prices
- Inflation is currently difficult to measure due to the restrictions caused by COVID-19, as has been stressed by the ONS. The ONS reported that prices were unavailable for just under a fifth of its inflation basket in May
- Inflation looks certain to fall back further over the next few months and the EY ITEM Club believes it could get as low as 0.2% – which will provide some much-needed help for consumers and the economy. Relatively low oil prices will limit inflation, along with weakened economic activity in the near term
- There was evidence of weak price pressures further down the supply chain in May with producer input prices falling 10.0% year-on-year as they edged up 0.3% month-on-month. Meanwhile, producer output prices were down 1.4% year-on-year (the largest drop since December 2015) as they fell 0.3% month-on-month
Howard Archer, chief economic advisor to the EY ITEM Club, comments:
“Consumer price inflation fell back further to 0.5% in May, taking it to the lowest level since June 2016. This was down from 0.8% in April, 1.5% in March, 1.7% in February and a six-month high of 1.8% in January. Inflation had previously increased to 1.8% from 1.3% in December, which had been the lowest level since November 2016. Consumer price inflation averaged 1.8% over 2019, down from 2.5% in 2018 and 2.7% in 2017.
“At 0.5% in May, consumer price inflation was more than one percentage point below the Bank of England’s 2.0% target rate. This requires the Bank of England Governor to write to the Chancellor to explain why inflation has fallen below target and what the Bank proposes to do about it. This letter will be published on Thursday alongside the minutes of the June meeting of the Monetary Policy Committee.
“The Office for National Statistics indicated that inflation is currently difficult to measure due to the restrictions caused by coronavirus. The ONS commented “we identified 74 CPIH items (or 14.2% of the CPIH basket by weight) that were unavailable to UK consumers in May; this is down from 90 unavailable items in April; compared with the February 2020 index (the most recent “normal” collection), we have collected a weighted total of 81.6% (excluding unavailable items) of the number of price quotes for the May 2020 index, although the coverage varies across the range of items.”
Howard Archer continues: “Inflation was brought down in May by lower fuel prices. The ONS reported that average petrol prices stood at 106.2 pence per litre in May 2020, the lowest observed since April 2016, while average diesel prices were 113.4 pence per litre, the lowest since September 2016.
“There were also downward contributions for recreation and culture goods (mainly games), restaurants and hotels and health. Core inflation moderated to 1.2% in May (the lowest since October 2016) from 1.4% in April,1.6% in March and 1.7% in February.
“Some upward pressure on inflation in May came from food and non-alcoholic beverages.
“Inflation had previously been brought down in April by lower energy price inflation as the April 2019 increase in Ofgem’s electricity and gas price caps dropped out of the year-on-year comparison. Additionally, Ofwat introduced lower water and sewerage price caps from April.”
Outlook for Inflation
Howard Archer adds: “Inflation looks likely to fall back even further over the next few months and the EY ITEM Club believes it could get as low as 0.2% over the summer.
“Low oil prices will limit inflation, along with weakened economic activity in the near term at least. While Brent oil has risen from a near 21-year low of $15.93/barrel on 22 April to currently trade around $41/barrel, it remains at a relatively low level and is still some 37% below the late-January level of $65/barrel. The EY ITEM Club currently expects Brent oil to average around $41/barrel in 2020 and $48/barrel in 2021.
“Contracting UK economic activity amid still-restrictive lockdown measures is exerting downward pressure on prices despite the supply side shock. Meanwhile, the near-term fundamentals for consumer spending have taken a downturn as a result of COVID-19. Many people have already lost their jobs, despite the supportive government measures while others may be worried that they may still end up losing their job once the furlough scheme ends. Additionally, many incomes have been affected. This is likely to keep consumers price conscious for some time, even when the economy starts to recover. Limited earnings growth will also have a dampening impact on inflation.
“Sterling coming well off its March lows is also likely to help limit inflation, although the outlook for the pound is somewhat unclear given uncertainty over the UK economy as well as UK-EU negotiations. The pound fell to its lowest level since 1985 against dollar of $1.1413 on 20 March; it also fell to its lowest level against the euro since March 2009 (95.0 pence). Sterling has since moved modestly back up overall to currently trade around $1.25 and 90 pence/euro.”