Inflation pulled down by falling energy prices


February 2019

Inflation pulled down by falling energy prices

Inflation fell to a two-year low in January according to the Office of National Statistics (ONS).

The 12-month CPI (Consumer Price Index) inflation rate was 1.8% in January 2019, down from 2.0% in December 2018. This drop is largely a result of falling energy and fuel prices.

Between December 2018 and January 2019 consumer prices for gas fell by 8.5%, the biggest fall in three decades. This coincided with energy regulator Ofgem's implementation of their energy price cap which, after coming into effect in January, helped drive down inflation according to ONS.

Mike Hardie, ONS head of inflation, said: "The fall in inflation is due mainly to cheaper gas, electricity and petrol, partly offset by rising ferry ticket prices and air fares falling more slowly than this time last year."

This latest reduction marks the end of a long run of CPI inflation sitting above the Bank of England’s 2% target. The Brexit referendum caused the value of the pound to fall, which pushed inflation higher. Increasing costs of imported goods meant that Brits’ household disposable income shrank. Inflation peaked at a five-year high of 3.1% in November 2017, when households faced much greater price increases than the EU average.

Stephen Clarke, senior economist at the Resolution Foundation, reported that this drop in inflation should lead to a  “welcome boost to people’s spending power” and “that next month we’re likely to see real wage growth of around 1.5%, the fastest since mid-2016”.

He added “This cannot come too soon for households, with average earnings yet to be restored to their pre-crisis levels.”

Tej Parikh, senior economist at the Institute of Directors, said the lower inflation was a "boon" for the economy as it attempts to weather the effects of Brexit fueled uncertainty: "For the past two years, households have been squeezed between high prices and weak wage growth. With inflation now at a two-year low and growing upward momentum in pay packets, consumers are likely to feel less of a pinch on their wallets.”

Mr Parikh continued, "This easing in the cost of living should provide some uplift for the High Street just as consumer confidence appears to be waning".

Ian Stewart, chief economist at Deloitte, suggested that the changes should also provide relief for high street retailers. He said falling inflation alongside rising earnings was "delivering a powerful uplift to spending power" and added "Brexit dominates at the moment but were Brexit risks to ease, consumers would be well placed to hit the High Street".

Due to falling crude oil prices, petrol prices have also fallen by 2.1% per litre between December 2018 and January 2019, which should also come as a pleasant surprise for motorists.

The question now is, will inflation continue to decrease in the future?

Ofgem’s cap is a ceiling that can move up and down twice a year depending on the costs facing energy firms. That cap will be raised this April and this is likely to feed into future CPI figures.

On Wednesday 13th February, npower became the third of Britain’s six major energy providers to say it would raise prices from April following E.ON and EDF which raised their prices on Monday and Tuesday.

Howard Archer, chief economic advisor to the EY Item Club, has said that inflation is largely going to depend on the course of Brexit negotiations in upcoming months.

"Domestic inflationary pressures are expected to pick-up only modestly over the coming months amid likely limited UK growth," said Mr Archer.

With a Brexit deal, he said inflation could stay below 2% this year - and even dip to 1.6%.

Without a deal, Mr Archer said the Bank of England could cut interest rates as "economic activity would likely take a significant hit", suggesting a totally different outcome.