Factory prices up
Will interest rates go up soon?
That question is getting harder and harder to avoid, and in two days we have had two sets of statistics that illustrate why it is just as hard to answer. There was a surprise increase in today’s Producer Prices figures – the Output Price Index (prices when they leave manufacturers, before any mark-up from middle-men and shops and before VAT) in January was 1.0 per cent higher than in December, and was running at an annual rate of 4.8 per cent. Economists had only expected a month-on-month increase of about 0.5 per cent.
The Input Price Index was worse: the amount manufacturers are having to pay for raw materials was up 1.7 per cent on the month and the annual rate is a massive 13.4 per cent. Economists had expected the increase from December to be 1.2 per cent.
Yesterday, however, the Index of Production data revealed that the manufacturing recovery still has shaky feet. If you pay attention to these figures, yesterday’s Bank of England decision not to raise interest rates was spot on – increasing interest rates before the economy is ready for it could be devastating. But today’s figures will be very strong ammunition for interest rate hawks and more and more commentators expect a rise this year.
The difficulty we’re in is that while most British politicians have been concentrating on the strong performance of our manufacturing companies, and pinning hopes for the future on their continued success, there’s been similar strong performances by manufacturers across the world. These companies are all keen to raise their output, especially in the BRIC economies, and this is pushing up the demand for raw materials and intermediate goods. In the latest figures there’s a 28.8 per cent increase in the price manufacturers are paying for “crude oil, etc” and 26.4 per cent for “imported metals”. Other imports that are strongly contributing to the price increase include a 9.8 per cent rise in the price of “imported chemicals” and 11.4 per cent for “other imported materials”.
We’re in a bind that will be familiar to anyone with memories of the seventies. Britain is relying on exports of manufactures to lead the way to self-sustaining recovery and that depends on strong markets and a competitive pound. The pound is competitive in large part because of low interest rates, and it has been fairly easy to maintain low interest rates because inflation has been low. At the same time, low inflation and interest rates have meant that declining real wages have been easier for workers to bear – and the fact that unemployment has been high and unions weak has meant that it would in any case have been hard for us to resist this wage erosion.
As the global economy recovers, other European countries are also trying to export their way to recovery whilst holding down domestic demand and the industrialising countries that were less damaged by the global recession are continuing to expand their exporting industries. Global growth is pushing up prices but at the same time increasing competitive pressures that tend to act in the other direction.
The friends of finance worry that keeping interest rates low may risk a loss of control over inflation. On the other hand, a significant increase could further depress domestic demand and might force the exchange rate up, leading to a loss of competitiveness and possibly renewed recession. Companies which have large amounts of cash available for investment won’t release it as long as they worry that that is what is going to happen.
The return of stagflation is by no means impossible in these circumstances. Before we come to that, even fiercer downwards pressure on wages must be a strong possibility. Mervyn King’s speech could be the first of a series of interventions from different quarters that will be increasingly explicit about demanding that workers’ real incomes should pay the cost of the recovery.
That is why the alternative is so important. On 26 March we can start the process of reversing the policies that are taking us in this direction. If we don’t, the medium and longer term prospects are depressing.