The Bank of England’s outgoing chief economist has warned that inflation could rise by more than expected and force the central bank into a dangerous “handbrake turn” to stop the economy from overheating.
In a parting shot at his fellow rate-setters on his final day at Threadneedle Street on Wednesday, Andy Haldane said he expected that a surge in consumer prices would drive UK inflation close to 4% this year.
The Bank’s nine-member monetary policy committee (MPC), from which he is standing down, said last week it expected inflation to peak at 3% by the end of 2021, before falling back in 2022 as the post-Covid economic boom fades.
In a speech to the Institute for Government thinktank marking his departure from the Bank, Haldane said there were reasons to believe that current isolated pockets of rising prices in parts of the UK economy would translate into a wider “significant and persistent” rise in inflation.
“By the end of this year, I expect UK inflation to be nearer 4% than 3%,” he said.
Such a scenario would force the central bank to raise interest rates at a faster rate or by a materially larger extent than currently expected, he said.
“If this risk were to be realised, everyone would lose – central banks with missed mandates needing to execute an economic handbrake turn, businesses and households facing a higher cost of borrowing and living, and governments facing rising debt-servicing costs. As in the past, avoiding that inflation surprise is one of the central tasks of central banks,” he said.
Haldane’s intervention marks his latest warning over the risks posed by inflation before leaving to run the Royal Society for Arts thinktank later this year. Should inflation peak at 4%, it would be double the Bank’s 2% target rate, set by the government as the target for the central bank.
UK inflation rose to 2.1% in May from 1.5% a month earlier, driven by rising fuel prices, as well as the cost of clothing, meals and pub and restaurant drinks as hospitality venues reopened after lockdown. However, much of the increase was due to the collapse in consumer prices and energy costs a year ago when the pandemic first started. Inflation is measured using a basket of goods and services and taking the 12-month price change.
Economists are, however, growing concerned that bottlenecks in global supply chains and rising commodity prices, coupled with booming consumer demand as Covid-19 restrictions are gradually relaxed, will feed through into higher prices in shops and for other goods and services.
This could be exacerbated by billions of pounds in government support for households and companies, as well as through low interest rates from central banks around the world, used to cushion the economic fallout from the pandemic.
However, others say recent inflationary pressures are likely to be temporary, while cutting back emergency support could choke off a sustainable economic recovery, and that risks still remain as the pandemic continues.
It comes as the British Chambers of Commerce (BCC) warned that UK companies were the most concerned about inflation for almost a decade, as supply bottlenecks caused by Covid-19 and Brexit force firms to increase the prices they offer to consumers.
The business lobby group said the highest share of UK manufacturers since 1989 planned to raise their prices over the coming months, with companies blaming higher costs and shortages of raw materials such as steel, timber, cardboard and foam.
In the quarterly survey of 5,800 firms across all sectors of the economy – which is closely watched by the Bank and the Treasury – as many as 46% of company bosses said inflation was a concern for their business, the highest level since late 2011.
In the manufacturing sector, the balance of firms expecting to increase their prices rose to +58% in the three months to the end of June, up significantly from +27% in the first three months of the year.
However, the BCC said there were signs that current pressures could prove temporary because there was little evidence of inflation from employers raising workers’ wages – regarded as pivotal for sustained price rises.
According to the survey, raw material costs were a key driver of rising prices for 89% of manufacturers, but as few as 17% cited pressure from staff pay settlements.
Suren Thiru, head of economics at the BCC, said: “The historic uptick in price expectations suggests that inflation will drift markedly higher over the near term. However, with our results also showing little evidence that higher inflation is becoming embedded in higher pay settlements, the MPC should have sufficient scope to tolerate a marked period of above target inflation.”
Forecasts published by the accountancy firm PricewaterhouseCoopers on Thursday suggest UK inflation will peak at between 2.5% and 2.8% later this year, before gradually falling in 2022.
Hannah Audino, an economist at PwC said: “In general, inflation is likely to follow an upwards trend as the economy continues to reopen. It is expected that the Bank of England will continue to prioritise supporting the recovery with low interest rates, over reducing inflation.”