During the video Steven refers to the house prices as ‘house prices rise’, we apologise as he meant to say ‘house prices fall’. This has been corrected in the article below.
A couple of months ago I forecast that UK inflation would fall to 3% by the end of 2023. Many expressed frank disbelief at this prediction and since then we’ve had two inflation releases by the Office for National Statistics both well above expectations, inflation remaining in double figures and there’s also been an acceleration in wage inflation. Those who doubted my forecast must be thinking that I’ve got it all wrong. Well, I’ve had a good hard look at the numbers, and I am sticking to my forecast.
There are three good reasons why inflation is set to tumble. First and most obviously, household energy bills aren’t going to rise any further and will probably be falling from July onwards. The energy price cap rose from £1,200 to £2,500 last April, a rise of over 200%. That’s included in the latest figures for inflation. When next month’s figures are released that year-on-year number will fall to zero. My guess is that we will see bills 10% or so lower by year end. A huge change.
Second, sterling. It was weak for most of last year, collapsing after Kwasi Kwarteng’s budget in September 2022 but since then it’s been appreciating. Given the lags, I believe that sterling has added two percentage points to the current rate of inflation. If it stays at its current level that impact should disappear by year end. Indeed, if sterling strengthens further as I expect, it could go negative.
Third is wage inflation which is set to slow from the summer onwards. During covid, student numbers rose by 400,000. This was partly because there were fewer jobs back in 2020 but also because rampant grade inflation meant that almost everyone got the A level grades required to go to university. Some of those students have already started work but most will be graduating in June. That’s a big increase in the labour supply. Added to this is the hefty increase in non-UK born workers returning to the labour force and new migrants especially in key sectors like health care, construction, and IT. The recent jump in wage inflation probably reflects employers anticipating the 10% increase in the minimum wage. Annualising the last 3 month’s figures, as many analysts have done is misleading.
Even if it looks like CPI inflation will miss my 3% target, I can always pretend I was talking about CPIH inflation, the Office for National Statistics preferred measure which includes owner occupation costs. This is already running over 1% below CPI inflation and the gap can only widen as house prices fall further.
I do not expect this trend to prevent the Bank of England (BoE) from raising interest rates farther. Base effects like household energy bills and a reversal of sterling weakness are one off temporary factors. They do not add up to a sustainable fall in inflation – which is what the BoE are aiming for. The increase in labour supply is more important, they will take account of that but I expect this to be offset by improving consumer confidence and spending.
