Stephanie Flanders has a long discussion of how much of a shock it is.

Simon Ward is (typically) hawish, calling for more rate hikes.

But the most interesting view comes from an unpublished private note from Jamie Dannhauser of Lombard, who urges people not to be fooled by the shock, and identifies one-offs like the VAT rise, petrol prices (the petrol price sub-index is up 25%), and most interestingly motor vehicle prices, rising by 9% on the year, despite “the collapse in the demand for cars as credit availability has shrunk”.  Cars alone make the headline rate of inflation 0.5% higher, and 2nd hand cars are up 16% on the year.   He finds that this may be because of (a) sterling and (b) people undersupplying the 2nd hand market partly because of the scrappage scheme.  Taking these effects out, the index looks much weaker.

But.  If cars had been cheaper, consumers might have bought something else, pushing the other index up, surely?   I appreciate this may be a one-off.  But it reminds me of one-offs that keep happening …


7 thoughts on “Three more views on inflation

  1. A quick scan and this seems like cost-push inflation rather than demand-pull. Not that surprising given the state of unemployment (e.g. ). So not sure why the BoE should be raising rates, even if you think that price stability is more important than full-employment.

    Also, I keep thinking of Gibson’s Paradox when considering the appropriate BoE response.

      1. Well you certainly don’t seem under-read!

        But in any case, Hannsgen has done some modelling of Gibson’s Paradox and the cost push-channel here and also here

        He explains the Paradox and its implications in the following manner:

        A question that has vexed researchers for over 150 years arises in connection with the empirical observation known as Gibson’s paradox. The apparent paradox is that interest rates and the price level are positively correlated. In a conventional Keynesian model, a decrease in interest rates reduces the rate of economic activity and would presumably therefore put downward pressure on inflation rates. Yet a positive correlation between interest rates and prices has been found by researchers going back to some of the earliest studies of price data (Tooke 1838).

        A natural explanation for the paradox suggests itself. If interest rates are a cost of production and prices are based on costs, then interest rate rises would be passed along to consumers in the form of higher prices (Pivetti 2001). In much modern thought, this explanation is tied to the notion that interest rates are determined by central bank policy, rather than by liquidity preference or equilibrium in the loanable funds market.

        As Taylor (2004) points out, this notion, “that the price level (and, by extension, the inflation rate) depends positively on the interest rate [,] has a checkered history.” Thomas Tooke of the 19th century Banking School was perhaps the first to suggest the idea. His point in using the concept was to debunk the theories of the Currency School economists, who argued that increases in the money supply would cause inflation. A member of the Currency School, like a modern monetarist, might expect an increase in the money supply to reduce interest rates, stoking economic activity, which would then lead to inflation. Tooke’s finding that price levels were not inversely associated with interest rates casts doubt on this theory.

        As most advocates of the theory of interest rate cost-push inflation have recognized, this view has some important potential policy implications. First, high interest rates would be exactly the wrong medicine for inflation. It may be that countercyclical interest rate policy does affect inflation in the expected direction, by regulating the level of economic activity. But this effect would be blunted by a cost-push factor working in the opposite direction. As a result, a much steeper recession would be needed to damp inflation than in the absence of the cost-push effect.

      2. Thanks for all that!

        I am more concerned with a different paradox right now: tight credit conditions would normally cause weak prices (harder to borrow to spend) but since they make financing working capital more pricey, it does the opposite.

      3. That’s the same paradox, no? Higher rates (tight credit) can lead to a higher price level through the cost-push channel….?

        I love thinking about macro–it’s like everything struggles to make itself felt in at least two different directions.

  2. The fall in sterling is pushing up prices. I have the current and 1 year old screwfix catalogue. A lot of simple things – wire tension bolts, shield anchors, have gone up, and by 10-20%. These are all imported. This is a competitive sector, and it seems that sterling is the only reason.

    1. Yes I agree – my question is, when will this all be passed through?

      An excellent note from Jamie Dannhausser today finds survey after survey by employeers reporting that they have no need for extra capital or labour in order to increase production – loads of capacity. But the stuff we have to import – it must be that.

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