The big squeeze
The Guardian, Wednesday June 18 2008
The British are adjusting to a new, expensive era. They feel it when filling up their cars, or doing the weekly shop. Mortgage bills are soaring, while wage rises are nowhere near as forthcoming. This is the big squeeze, and we shall feel it for a long time to come.
So much was clear in the letters exchanged yesterday between Mervyn King, head of the Bank of England, and the chancellor, Alistair Darling. Mr King has to write a memo every time inflation goes more than a percentage point wide of the set target of 2%, or remains astray for three months. Only one has been sent in the 11 years of Bank independence; but yesterday, as inflation hit its highest level since Norman Lamont was at No 11, both correspondents agreed there would be further letters to come. Already at 3.3%, inflation could easily top 4% by the end of the year, predicted Mr King. He thought oil and food prices could keep rising over the next few months and noted that this was a global phenomenon. He is absolutely right: the cost of living is rising sharply in both rich countries and poor, for America and Asia. Globalisation enabled western business to hire cheap labour from developing countries and consumers to buy cheap manufactured goods, but it has also turned millions of Chinese, Indians and others into demanding consumers: able to afford meat, or to upgrade from a bicycle to a scooter. Demand for basic commodities has raced ahead and outstripped supply. The result has been starvation and riots in poor countries, and higher bills for the rich. And, of course, headaches for central banks.
The Bank of England would normally have jacked up rates to quell inflationary pressure, but it is rightly reluctant to do so as the economy slows down. On almost any indicator, from activity in the housing market to surveys of manufacturing sentiment, the economy appears to be sinking deep enough, fast enough to justify rates heading south. With these forces pulling in different directions, Mr King's best hope is to sit tight and hope that rising prices do not feed into bigger wage demands. No sign of that yet, but if it does it really would be a return to stagflation, the era when prices soared even as the economy juddered to a halt.
All sensible enough from policymakers, but very painful for consumers. They are effectively being asked to pay far more for basics (there is not much scope for economising on food), without matching wage rises. That fits in with other sharp adjustments. For years the typical homeowner has enjoyed a combination of easy debt, rising house prices and record-low inflation: all three have now vanished, and all three are unlikely to reappear any time soon. The big squeeze is set to be a long one.
http://www.guardian.co.uk/commentisfree/2008/jun/18/inflation.bankofenglandgovernor