The September inflation data was pretty much in line with expectations with the key RPIX measure edging closer towards the 2.5 per cent target. Significantly, the numbers confirm that underlying inflation pressures remain subdued. Stripping out all housing related items, the RPI inflation rate stands at just 1.7 per cent . Meanwhile the HICP measure, which excludes property prices, remained unchanged in August at 1.4 per cent. Interestingly, the numbers only turned out as high as they did because of a sharp rise in seasonal food prices.
In terms of the key components, while goods price inflation slipped from 0.6 to 0.5 per cent, service sector inflation fell from four to 3.6 per cent. This is its lowest level since the first half of 2001. One reason for this is the diminishing contribution to inflation from leisure services. Back in March, the twelve month price increase in this area was 7.9 per cent; it now is just 1.9 per cent. Within this, inflation in the cost of foreign holidays, which earlier this year was running in double digits, has dropped to zero.
One conclusion from today’s set of numbers is that pricing power across much of the private sector remains absent. This indicates that if companies are going to continue to grow their profits they will have to remain very focused on cost cutting. The indication from surveys such as CIPS is that hiring is back on the agenda which may make it tough to deliver on this issue.
A second conclusion is that the money markets are way too aggressive in their expectations for base rates. Even after the latest inflation numbers they are still anticipating a rise in base rates to 4.5 per cent by June. We expect the response of the MPC to be rather more measured. A reversal of the last round of easing which took place back in July is unlikely until well into next year.
