After a busy week for UK economic data, today brought the FT headline ’IMF chief warns of 1930s style threats’, the perfect accompaniment to a fairly grey and drizzly morning. I can see why Christine Lagarde is concerned – the economic data has been grim for the past few months, there are rising international economic tensions (such as the ludicrous spat between the UK and France over who’s AAA rating is least deserved) and the Eurozone’s most recent summit was very disappointing.
But closer to home – what did the data this week tell us? Leaving aside the latest grim news from the labour market, I was struck by the combination of the latest inflation and retail sales figures. Read together tell us a worrying story.
Over the past 18 months inflation has risen faster than wages causing a squeeze on real incomes which has hit consumer spending and hence depressed domestic demand. So any fall in inflation should be welcome as it should boost real incomes and hence provide a prop to consumer spending and domestic demand.
But there are some worrying signs that this might not be the case.
To start with real wages are not rising as much as falling inflation might suggest. Since peaking in September at 5.2% CPI inflation has fallen by 0.4 percentage points to 4.8% in November whilst RPI has also fallen 0.4 percentage points (from 5.6% to 5.2%) in the same period.
Sadly though we have seen a fall of a similar magnitude in average weekly earnings (total pay measure). In September they were growing at an annual rate (3 month average) of 2.3%, in October that feel to 2.0% – a fall of 0.3 percentage points – very similar to the 0.4% fall in inflation.
Indeed back in January real wages (measured by average weekly earnings growth minus RPI) were falling at an annual rate of 2.7%, on the latest data they are falling at an annual rate of 3.2%. Inflation might be coming down, but so is wage growth.
The fall in inflation then is not, at the moment, leading to an improvement in real wage growth or providing much support to spending.
In fact the opposite seems to be true.
This week’s retail sales figures showed a monthly fall of 0.4% in volume terms. As Bloomberg noted the fall in inflation has been driven by “food and transport prices as the prospect of another recession weighed on the economy”.
As the economy has weakened retailers are now engaged in a full scale ‘price war’ in an effort to hang onto sales.
Rather than a reduction in inflation supporting consumption, a fall in consumption is driving inflation lower. And real wages aren’t improving as the labour market remains very weak.
Add in the debt overhang faced by households, the weak growth of the money supply and bank lending and the prospects of a second credit crunch hitting UK banks in 2012 and you get something very close to Irving Fisher’s ‘Debt Deflation’ (his 1933 article is available here and makes for grim weekend reading).
It could be that in 2012 there are two great surprises in UK economic data – first how quickly inflation falls and second how this fails to support consumer spending.