Press release

21 Oct 2020 London, GB

Consumer price inflation up to 0.5% in September – EY ITEM Club comments

Consumer price inflation rose back up to 0.5% in September having fallen to 0.2% in August from 1.0% in July

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  • Consumer price inflation rose back up to 0.5% in September having fallen to 0.2% in August from 1.0% in July
  • Low inflation of 0.5% in September is a boost for consumers' purchasing power amid rising unemployment and the prospect of limited pay increases
  • Consumer price inflation was primarily lifted in September by the ending of the ‘Eat Out to Help Out’ scheme, which had been a significant factor in the fall in August. There was also an upward impact from transport prices, largely due to higher air fares
  • There were modest downward impacts on inflation in September from furniture, household equipment and maintenance; games, toys and hobbies; and food and non-alcoholic beverages. Core inflation rose back up to 1.3% in September after falling to 0.9% in August from 1.8% in July
  • There was evidence of limited price pressures further down the supply chain with producer input prices falling 3.7% year-on-year in September although they were up 1.1% month-on-month. Meanwhile, producer output prices were down 0.9% year-on-year as they edged down 0.1% month-on-month
  • The EY ITEM Club expects consumer price inflation to hover around 0.5% for the rest of 2020 and into early-2021 before starting to trend up gradually
  • Price conscious consumers, excess capacity, limited earnings and slower economic activity are likely to limit inflation in the near term at least
  • The EY ITEM Club expects inflation to start rising from Q2 2021 as the temporary VAT cut ends in March. Unfavourable base effects resulting from the fall in oil prices in early 2020 will also have an upward impact on inflation early on in 2021. An expected gradual firming of the recovery after early-2021 could also have some upward impact on inflation, but it is unlikely to rise quickly and could be around 2.0% by the end of 2021
  • With inflation substantially below its 2% target and the UK economy facing further challenges and uncertainties, despite a strong Q3 bounce back, the EY ITEM Club suspects the Bank of England will decide that further stimulus is warranted at the 4-5 November Monetary Policy Committee (MPC) meeting. This is likely to be in the form of a further £100bn of asset purchases

Howard Archer, chief economic advisor to the EY ITEM Club, says:

“Consumer price inflation rose back up to 0.5% in September, after falling to 0.2% in August – the lowest level since January 2016 – from a four-month high of 1.0% in July. Inflation had previously trended down to a then-low of 0.5% in May from a six-month high of 1.8% in January.

“At 0.5% in September, consumer price inflation was more than one percentage point below the Bank of England’s 2.0% target rate.

“Inflation was significantly lifted in September by the ending of the Government’s ‘Eat Out to Help Out’ discount scheme which ran throughout August and had been a major factor in the fall in inflation compared to July. There was also an appreciable upward impact from transport prices (the first positive contribution since March), as they were lifted by air fares falling less than normal between August and September. There was also a modest upward impact for higher prices for second hand cars. Average petrol prices stood at 113.3 pence per litre in September 2020, up from 113.1 pence in August but below 127.3 pence recorded in September 2019.

“Inflation continued to be held down in September by the temporary VAT cut (from 20% to 5%) that was introduced in mid-July and which will last through to end-March 2021 for the hospitality sector, hotel and holiday accommodation and admission to certain attractions.

“There were also downward impacts on inflation in September from furniture, household equipment and maintenance; games, toys and hobbies; and food and non-alcoholic beverages.

“Core inflation rose back up to 1.3% in September after falling to 0.9% in August from 1.8% in July. It had previously climbed to 1.8% in July from 1.4% in June and 1.2% in May.”

Outlook for inflation

Howard Archer adds: “August’s rate of 0.2% almost certainly marked the low point for inflation and this view is reinforced by September’s rise to 0.5%. The EY ITEM Club expects consumer price inflation to hover around 0.5% through the rest of 2020 and early-2021 before starting to trend up gradually.

“While the economy clearly saw a substantial bounce back in the third quarter after its record second quarter contraction of 19.8% quarter-on-quarter, growth is likely to be limited in the fourth quarter at the least amid increased restrictions on activity due to rising COVID-19 cases, a likely significant rise in unemployment and waning pent-up demand. This is likely to fuel consumer caution in their spending, while the near-term fundamentals for consumer spending look challenging. Many people have already lost their jobs, despite the supportive government measures, and others will be worried that they may lose their jobs with the furlough scheme ending in October. Additionally, many incomes have been affected. This is likely to keep consumers price conscious for some time. Limited earnings will also have a dampening impact on inflation.

“The EY ITEM Club expects inflation to start rising from the second quarter of 2021 as the temporary VAT cut ends at the end of March. Unfavourable base effects resulting from the fall in oil prices in the early months of 2020 will also have an upward effect on inflation in the early months of 2021. An expected gradual firming of the recovery after early-2021 will also likely have some upward effect on inflation, but it is unlikely to rise quickly and could be around 2.0% by the end of 2021.

“There was evidence of current limited price pressures further down the supply chain in September with producer input prices falling 3.7% year-on-year in September although they were up 1.1% month-on-month. Meanwhile, producer output prices were down 0.9% year-on-year as they edged down 0.1% month-on-month.”

Further Bank of England stimulus likely

Howard Archer adds: “With inflation substantially below its 2% target and the UK economy facing further challenges and uncertainties, despite a strong Q3 bounce back, the EY ITEM Club suspects the Bank of England will decide that further stimulus is warranted at its upcoming November MPC meeting. The EY ITEM Club believes that the Bank of England is likely to deliver a further dose of asset purchases at the November MPC meeting. This will probably be in the region of £100bn, which would take the total up to £845bn.

“The Bank of England is unlikely to cut interest rates from the current level of 0.10% at the November MPC meeting as it is still carrying out its review on the case for, and practicalities of, introducing negative interest rates. The EY ITEM Club remains doubtful that the Bank of England will ultimately introduce negative interest rates.”

Inflation measurement challenge has eased

Howard Archer adds: “The Office for National Statistics (ONS) has reported that inflation has been difficult to measure in recent months due to the restrictions caused by COVID-19 – although the situation has recently improved. The ONS commented: “Overall, the number of CPIH items that were unavailable to UK consumers in September remained at eight with one item being reintroduced; however, the latest travel restrictions introduced in response to the ongoing coronavirus pandemic meant a separate item was no longer available to consumers. In total, these made a small upward contribution of 0.01 percentage points to the change in the CPIH 12-month inflation rate. None of the imputed items individually made a significant contribution to the change in the rate.”