13 Dec 2016

Inflation ascends as the effect of the pound’s fall starts to show

Philip Shaw

Chief Economist

The headline UK inflation rate climbed to its highest level since October 2014, reaching 1.2% in November, from 0.9% in October. That was a touch above market expectations and our own forecast of 1.1%. Core inflation also climbed to 1.4% from 1.2% (consensus and Investec 1.3%).

There were numerous drivers of the step up in the 12-month inflation rate today; for some we can start to lay some blame on the sharp fall in sterling post-Brexit vote, whilst in other categories, other elements look to be at play:

  • The ‘clothing and footwear’ category had the biggest positive influence, adding 0.11pts to the 12-month inflation rate. For clothing and footwear, prices rose by more than their typical November increase, with a 1.4% rise on the month compared to a small fall a year ago; here seasonal sales pattern changes may well be an influence. The UK statistics office described this as continuing ‘the rather volatile movements observed during 2016’. Note that this was the largest October to November rise since 2010.

  • Looking at the transport category, following the fall in sterling after the Brexit vote (and movements in oil prices), fuel import prices have risen. Specifically, in November, petrol prices rose by 1.6 pence per litre whilst they fell by almost the same amount a year ago. Hence the monthly rise in petrol and diesel costs saw the ‘fuel and lubricants’ category add 0.08ppts to the 12-month inflation rate.

  • Recreation was another sizeable influence, with this category adding 0.07ppts. On the latter there have been reports from some IT equipment manufacturers of prices being affected by changes in the exchange rate with products generally priced in dollars. Here there has been discussion about large increases in the price of Apple and Dell products which took place at the end of October, hence making their way into the November inflation figures. Microsoft also has new prices set to come into effect from January 2017, providing a further uplift to inflation at that point.

From here we see inflation continuing to ascend robustly through 2017 and we judge that we are only really at the start of seeing the effect of the pound’s fall feed through. Producer input price data releases today show input price inflation standing at 12.9% in November, its highest level since 2011, pointing to strong price pressures in the pipeline, though a temporary decline in crude oil costs resulted in a 1.1% monthly fall. At the factory gate, output price inflation was a touch softer than consensus at 2.3% yoy (consensus 2.5%, Investec 2.4%), but again signalled growing cost pressures with the firmest reading since April 2012.

Our forecasts envisage inflation climbing relatively rapidly through the early part of 2017 reaching 3.0% around the middle of next and year and remaining elevated well into 2018. Note that the Bank of England envisages inflation peaking at 2.8% in Q2 2018. The Monetary Policy Committee is meeting to discuss its latest monetary policy announcement this week. In light of the additional information available in today’s CPI releases, markets will no doubt be looking for guidance on whether the Monetary Policy Committee remains happy with its neutral policy stance and whether it provides any update on the risks around its current central view of inflation’s path ahead.