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Unstoppable inflation?

Unstoppable inflation?

The governor of the Bank of England warned last week that inflation could get worse – and that most things driving price rises are beyond his control. But others say the Bank was slow to act when prices first started going up. Could it have done more?

“I mean you know it’s a very very difficult place for us to be and I mean to predict and to forecast 10 percent inflation and then say as we were saying a few minutes ago and there’s not a lot we can do about 80 of it is, I can tell you, it is an extremely difficult place to be.” 

Andrew Bailey

That’s Andrew Bailey, the governor of the Bank of England, telling MPs that despite prices rising at their fastest rate in 40 years, there’s not much the central bank can do about it.

It aims to keep inflation below two percent and one of the tools it has to control it is interest rates. 

But in this case he said soaring prices were mainly being caused by external factors, which is why other countries are also facing inflationary pressures.

And he warned that things are going to get worse

“I’m afraid the one that I am going to sound I guess rather apocalyptic about is food.” 

Andrew Bailey

Ukraine is a major supplier of grains and cooking oils, and the war there means it’s struggling to get supplies out of the country. As those raw ingredients become less available, prices of products they’re used in will rise.

Andrew Bailey said that wouldn’t just be a problem for the UK, but for countries in the developing world too. 

So, how did we get to the highest rate of inflation since March 1982? And is there really nothing the Bank of England can do to keep price rises in check?

***

Central bankers like Andrew Bailey have been thinking about the inflation rate for a while now, because prices started rising about a year ago. 

Back then, economists said it was caused by a few different factors:

Covid restrictions and relief packages had kept prices for some goods and energy low. As things opened up they started to rise. 

Companies also started hiring again, flooding the jobs market with vacancies.

The huge demand for workers meant that people applying for jobs could ask for higher salaries and that pushes up prices too. 

Covid also impacted supply chains, causing shortages of things like computer chips and building materials, which made things more expensive.

But in the summer of 2021, most central bankers, including Andrew Bailey, were saying that inflation was going to be “transitory”. Here he is talking to CNBC back in August 2021:

“We are forecasting you know a hump in inflation. It’s going to rise uh but we think it’s going to be temporary.”

Andrew Bailey, CNBC

They thought that once our lives and the economy got back to normal, things would settle down. 

But then, something changed

“Ukraine says Russia has launched a full scale invasion.”

BBC News

Western countries responded by putting sanctions on Russian oil and gas, which caused already rising energy prices to rocket. 

That doesn’t just affect how much you pay for energy at home. It also makes it more expensive to produce the things you buy.

That, coupled with a shortage of raw ingredients like grains and cooking oils, also contributes to food price rises.

On top of that, global supply chains faced big problems when the Omicron variant really started to rip through China in the spring of this year. 

“Chinese businesses are warning of the severe impact of shanghai’s prolonged lockdown.”

DW News

Several important manufacturing hubs and port cities went into lockdown – disrupting the flow of goods. 

Those are the external factors that Andrew Bailey told MPs he couldn’t do a lot about

“We can’t predict things like wars. I think we’re implying that’s not really in our you know our power. I’m sure it’s not in anybody’s power really.”

Andrew Bailey

Until recently interest rates have been historically low. At one point last year they were just 0.1 percent.

Interest rates didn’t start rising until the very end of last year and they’re now at 1 percent, so has the Bank been too slow to respond?

***

Not everyone agrees with Andrew Bailey’s assessment that there isn’t much more they can do about inflation. 

Mervyn King, who was the governor of the bank of England during the 2008 financial crisis, told LBC that some of the inflation had been caused by the way governments and central banks handled the outbreak of Covid in 2020

“When the pandemic hit, governments stepped in and put in a lot of money for furlough schemes or raising unemployment benefits. That was very sensible. The problem was that central banks also printed a great deal of money and that wasn’t needed, it put a lot of money into the system.”

Mervyn King, LBC

And he said that there are things central bankers can do now. 

It’s up to them to send a really strong message about controlling inflation.  

“I think the big challenge is they’ve got to demonstrate that they realise the need now is to give a very strong signal that they’re focusing on bringing inflation down.”

Mervyn King, LBC

He said he thinks that when inflation is predicted to run at 10 per cent, interest rates of 1 per cent isn’t going to cut it.

And he thinks central bankers around the world, including Andrew Bailey, didn’t act quickly enough to keep a lid on inflation. 

The Omicron variant and the Ukraine war certainly did cause additional shocks, but inflation was already rising for months before that. 

And the Bank of England didn’t start putting up interest rates until December last year, even though inflation had been climbing since the spring. 

Perhaps the Bank should have done more then, and the message from people like Mervyn King is that they need to do more now.