UK sees second month of deflation

17th November 2015


The UK has experienced a second consecutive month of deflation as the consumer prices index (CPI) measured 0.1% in October.

According to the Office for National statistics, clothing costs increased last month, but food, alcohol and tobacco prices fell.

The ONS says prices fuel prices fell by 14% on an annual basis, while food and drink prices fell by 2.7% in October and energy costs were 4.1% lower.

Looking in more detail at the components of the CPI, IHS Global Insight chief UK and European economist Howard Archer says that a second month of deflation was “primarily due to a deeper drop in food prices and lower increases in university tuition fees than a year ago.”

He says: “There was also downward pressures from alcoholic beverages and tobacco prices.

“There was some upward pressure on inflation from higher clothing and footwear prices and from recreational goods, notably consumer games and consoles.

“The year-on-year drop in transport prices was little changed at 2.6%.”

The UK had first experienced the first deflation since 1960 back in April when prices also fell 0.1%.

What it means for consumers

Archer adds: “There seems little to worry about from the UK’s second successive month of marginal deflation in September, and it will certainly be welcomed by consumers as it further boosts their purchasing power.

“Deflation is likely to prove brief and marginal and it is highly unlikely that consumers will be tempted to start delaying purchases in anticipation of falling prices.”

What it means for investors

Ian Forrest, investment research analyst at The Share Centre, says: “Taken as a whole, households have experienced very little change in prices so far this year, compared with the same months in 2014.

“Investors should acknowledge that despite this being the weakest spell of inflation in more than 50 years, from November onwards, the market expects to see inflation rise as the impact of last year’s steep fall in the oil price begins to work its way out of official calculations.

“Added to the Bank of England’s recent dovish comments, these figures add to the underlying feeling that there will be no rush to raise interest rates until well into next year. For investors, this means that the case for long term investment in shares remains as strong as ever, with good returns relative to other asset classes.“

Maike Currie, associate investment director, Fidelity International, says: “For now the UK’s weak inflation rate is largely due to external factors – persistently weak global demand and a strong pound pushing down commodity prices. However, as the Bank of England’s chief economist Andy Haldane points out, over time these pressures should wane, and the key factor that will determine the future path of inflation will be domestic costs, specifically labour costs. But the UK labour market has been an unpredictable beast in recent years with wage growth remaining lacklustre despite the strong rise in jobs. One reason why wages are staying low could be because technology has made it easier and cheaper to substitute man for machine. This suggest much larger structural issues are keeping inflation at bay.

“The Bank of England’s suggestion that interest rates may stay at rock bottom throughout next year may just be the start of it. Interest rates could stay low for the foreseeable future if low inflation turns out to be less cyclical than structural. In a low interest-rate environment, investors continue to view equity income as a safe haven and a rare source of yield.”

 What it means for currency markets

Andy Scott, economist at HiFX said: “Sterling fell by around over 1 cent against both the dollar and the euro this morning, following the release of the Bank of England’s minutes and MPC vote that showed only one member voted again for a rate hike.

“Whilst there wasn’t anything in the report that should come as a major surprise, there was clearly a slightly more cautious tone from the BoE than the market was expecting. There was nothing to suggest their focus is solely on when to hike rates, they’re still in a wait-and-see approach, wary of increasing risks from overseas. We maintain our view that whilst domestic demand looks robust, there are strong enough headwinds to want to keep rates on hold well into next year, and if some of them develop, into 2017.

“The drop in Sterling from a 2-1/2 month higher of 1.42 this morning  will provide some relief to UK businesses who export to Europe, after the Euro fell 6% over the last month following the ECB’s signal that it may cut rates and increase Q.E. in December.”

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