Who pays for higher inflation?

One of the main macroeconomic consequences of Brexit is that inflation has reached a 22-month high. This is set to become worse- much worse- in the coming months. But what does inflation mean? Who pays for it? Is Scotland going to benefit from it?

On the 18th October the Office for National Statistics published their new inflation data. Having been close to zero for the first half of 2016 (until the Brexit vote), inflation has now risen to 1%, due to the fall of the value of the Pound against all major traded currencies.

The International Monetary Fund and the Bank of England estimate that inflation will rise to 3% by the end of 2017, exceeding the Bank of England’s own target of 2%. The Governor of the Bank of England, Mark Carney, argued that the inflation target will be sacrificed in order to facilitate a speedier recovery of the economy.

COMPETITIVE DEVALUATION

The devaluation of one’s currency is not a good or a bad thing in itself. What makes it good or bad is what type of economy a country has, and to which social group one individual belongs. China, for instance, was accused in recent years of devaluing the Yuan in order to gain advantage over its rivals. China has the strongest manufacturing sector in the world, and a weaker Yuan means that goods made in China are cheaper for foreigner buyers.

In other words, devaluating one’s currency is good for exports and bad for imports.

This has major consequences for the UK- which has a very different economy to China. The UK’s current Balance of Trade is -£4.7 billion, which means the total value of imported goods is £4.7 billion higher than the value of exported goods. It is not always been like that. Until the 1970s the UK enjoyed a balance of trade close to zero (1), but the Thatcherite “revolution” made the economy more reliant on the finance sector and less on manufacturing goods, which can be purchased cheaply from abroad.

WHO PICKS UP THE BILL?

An importing country like the UK is set to be hit hard by a devalued currency. The UK imports over 40% of its food (2) and the overwhelming majority of clothes, with higher percentages of imports at the lower end of the apparel market (just check the label on your clothes).

The way inflation is calculated understates price changes and understates how consumers who only buy essentials are more negatively affected then others: people on low-income will be hit harder than inflation figures suggest. A 1% rise in inflation does not mean that all people living in the UK will spend 1% more than last year when buying the same goods. Inflation- like all economic figures- is an average. Inflation is calculated by monitoring the retail prices of a shopping basket, which is made up of items listed in the Consumer Price Index (3). Items within it include the price of a Hotel’s stay and the price of “Jewellery and Clocks”.

People on low income do not spend any money on hotel stays or jewellery though. Most of the money spent by people on low income is for housing and food costs, as confirmed by research on poverty in Britain- and by the daily experience of many. When inflation is caused by a rise in basic items, like clothing and food, as it happens to be the case just now, it means that the more you spend on basic items, the higher ‘real’ inflation is going to be for you. For instance, the “average” person spends over 30% on housing costs, whilst housing account for only 12.8% of the Consumer Price Index total. In Edinburgh, a person working full time and earning the National Living Wage will spend 35% of their income to rent a room in shared accommodation at the lower end of the market. In 2015 the price of rent rose in the capital at a pace of nearly 9% compared to the previous year (4). This happened in a year in which the level of inflation remained the same.

People on benefits will be hit even harder- the block on in-work benefits rises imposed by former chancellor George Osborne means that benefits will not rise

in line with the official figures on inflation. To sum up, people on low income are hit much harder than inflation figures want you to believe.

References
(1) http://www.tradingeconomics.com/united-kingdom/balance-of-trade
(2) http://www.foodsecurity.ac.uk/issue/uk.html
(3) A Brief Guide to the CPI can be downloaded from http://www.ons.gov.uk/economy/inflationandpriceindices/bulletins/consumerpriceinflation/sept2016
(4) http://www.edinburghnews.scotsman.com/news/call-for-action-on-soaring-edinburgh-rent-prices-1-3839865

Comments (13)

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  1. w.b.robertson says:

    so what`s new? the poor always bear the brunt.

  2. c rober says:

    Good to see another that acknowledges the need for a true method to show inflation.

    Housing , fuel , tax , are the biggest single outgoings to everyone. Fuel for heating and eating , fuel for deliveries of goods to the supermarkets , tax on that fuel as well as vat means 65 percent of the pump costs are into Westminster coffers , and other tax surcharges like council tax too should be in any measurement.

    RPI , CPI , what we really need is a PERSON AFFECTED INFLATION measure , and perhaps home income inflation measure , and in doing so the ability for Scotland to use that as a lever in independence for fiscal responsibility/accountability as well as for change – rather than is the Westminster status qou of RPI and CPI as a fiscal weapon – where adjustments are always for political capital and hide the true results.

  3. Brian says:

    Very revealing, and something I had not considered. Thankyou for the insights.
    BTW, if I may say, ‘Brexit’ hasn’t happened yet…only the vote.

    1. c rober says:

      Yet the ripples have already been felt

    2. Emanuele de Vito says:

      Thanks for the comments Brian :). I did some research on the CPI and I felt obliged to share it: what a misrepresentation of real life. Will try and write a critique of the GDP illusion sometime soon. The myth that ‘the economy is growing therefore everything is good’ must be debunked.

  4. J Galt says:

    The prices in the supermarkets are going up by more than 1 or 2%.

    Retailing in the UK is on a knife edge – they cannot absorb the increased costs of imports – they have no choice but to pass them on to consumers who are themselves on a knife edge.

    We are now entering the period when most of the annual profits are made in the retailing sector.

    If consumers cut back this festive season because of price increases both real and perceived then expect some big name casualties come January!

    1. c rober says:

      Retail has been on a knife edge for decades , removing local to supermarket , supermarket to out of town , out of town to out of local authority area with ebay and amazon , and then on to out of country.

      But still some manage to profit , and expand , adapting to the market , even expanding with austerity – Lidl , Aldi , but unfortunately also an exporter of wealth being non Uk corps.

      But still it could be the likes of Tesco , with its long term tax avoidance , just like ebay and amazon whom are moving over to food , or Asda with its American parent company that suffers as a result…. or where if they can wrangle a biased trade deal , where it then becomes advantageous to import even more without any import duties as a result.

      Perhaps we are just being played , remain or leave the EU , with inflation it hardly impacts the wealthy – whom would only remove their investments into another area , away from shopping and food based on imports , only to return when things are changed in their favour.

  5. Thrawn says:

    All of this assumes that we can do nothing to affect inflation…of course one of the benefits of not being in the euro and having your own currency means you get to set your own interest rates – raising them makes your currency more attractive to foreign investors and increasing its value thereby lowering inflation

    UK interest rates are at historic lows (to stimulate the economy and couteract strong deflationary pressures) and therefore we have plenty of margin to control any inflationary pressures.

    Also the logic expressed here is a fantastic argument for Scotland to remain in the Union of course. If we had different currency from the UK (euro or Scottish sea shells) we too would have the prices of our goods affected by currency variations between us and the country with whom we have 80% of our trade

    1. Emanuele de Vito says:

      Thanks for your comment Thrawn. I didn’t want to address the question of Scotland directly but simply highlight how biased is the way inflation is calculated.

      If anything, I would say the inflation and currency devaluation issues show that an Independent Scotland should have her own currency. Even with the current arrangements Scotland has no control over the Bank of England…

      There are EU countries which have lost out from the Monetary Union because they are no longer able to control their own monetary policy (see Italy, or Greece) and as a consequence real wages have gone down in the last 15 years. The Euro will go down as one of the greatest mistakes in History. Scotland must not make the same mistake and allow another country (Germany or the rUK) to control her monetary policy.

      1. Thrawn says:

        You’re welcome Emanuele…

        And of course you’re absolutely correct that having an independent currency gives you the best chance to adapt your monetary policy to the demands of your economy. However two points:

        1. This is absolutely not the policy of the SNP who claim we can continue to use the pound or in worst case join the euro. Of course they reason is that they know to propose independence with a new currency would be a massive vote loser

        2. Even if you have an independent currency your monetary policy will still be overwhelmingly driven by that of your trading partners…UK has an independent currency but if the USA or EU goes into recession/depression our economy is hurt and our monetary policy has to react. With an independent Scotland the effect would be multiplied greatly as the vast majority of our economy is intrinsically linked to that of rUK…our monetary independence would in fact be an illusion

        1. Emanuele de Vito says:

          Hi Thrawn,

          I think you are correct in pointing out the interconnection of global economies. A crisis that started in a small section of the US mortgage market in 2007 ended up affecting employment and wages on the other side of the Atlantic and after 9 years we are still feeling the consequences. The Scottish Pound will not change that.

          An Independent Currency is not the official policy of the SNP, that’s right. I personally believe this should be changed, along with many other things I didn’t like in the White Paper and that ultimately made independence look pointless (we’ll get independence but we ll keep the Pound, the Queen and Nato membership…). However, we also need clarity over the currency issue because it has been the one topic on which most people seemed misinformed. ANY COUNTRY CAN USE STERLING. The only thing that was ever on the table for discussion was whether Scotland should have been liable to pay a share of the UK debt. The Treasury confirmed the UK government would be fully liable for the UK debt in case of indy http://www.bbc.co.uk/news/business-25707218 but for some reason the news wasn’t very much talked about. I can try and guess what the reasons are…

          Having an Independent Currency entails new risks as well as new opportunities.The point is that at least decisions will be made in Scotland and possibly people making decisions will be accountable to the voters of Scotland. That is the key point. For instance, if Scotland had been independent (and with an independent currency) by the time of the Brexit vote, it is plausible that we would now enjoy some benefits. The UK pound would be devalued against the Scottish Pound, making travel to and imports from the rUK cheaper. On the other hand, Scottish goods would be more expensive for the rUK but so are goods coming from the EU, China and the US so Scotland wouldn’t be disadvantaged in that.

          Clearly that’s only one of the possible scenarios, the key point is that at least people living in Scotland could be in charge. At the moment we are experiencing inflation caused by a decision taken by the people of England and Wales…

          1. Thrawn says:

            You are right that you can use anything as a currency…however for it to be used both parties have to believe it represents the same value. In a fiat currency with fractional reserve banking this concept is primordial and is derived from a guarantee by a central bank. If after independence the BoE and rUK stated that all Pound sterling assets (all of which are in essence computer data unlinked to any physical asset form) held on Scottish banks books were no longer guaranteed then every non-scottish financial institution or company in the world would immediately attempt to withdraw their assets – those banks would suffer an apocalyptic bank run and we would all suffer the consequences

            Nevertheless I agree that the only realistic option for a “truly” independent Scotland would be an independent currency…and I am sure the SNP know this. However because it is a massive vote loser they cynically deny this and pretend we could carry on like nothing has changed.

            Finally your point about a devaluation of pound sterling vs the scottish currency…your scenario assumes that the scottish currency would hold its value along with other european currencies. I would argue that in fact with our economies so tightly intertwined the most likely scenario is that that currency would mirror sterling and the competitive advantage you presume would not exist

      2. c rober says:

        I agree with the lack of devaluation on the Euro zone now being questioned in some of the Southern States/countries. And that it is not a perfect one size fits all.

        However with the case of Greece this diverged the moment it accepted the greed of pseudo socialist politicians that created the problem , with jobs for votes bribes in the civil service , the contract conditions meaning high wages for low skilled in the same civil service , and of course those low working hours and long holidays. This combined with lack of investment into an export economy beyond manky cheese or its dying shipping industry through Sino undercutting , olympic level tax avoidance from the lowly worker upward being reverse economic levers – and of course those loans to German Banks , that are now being repaid through the IMF – in one door out to another.

        Italy has suffered along the same lines , increasing civil service jobs , lack of investment , skill shortages as the young leave the land , so faming suffers. Now of course its banks , having been protected from the storm up until now , well they are under the microscope…. and are national pride investments , so shareholders are primarily those that remember wages in wheelbarrows , its pensioners.

        Lithuania , its main export having been anyone whom could get a ticket out is making some serious dent on its economy , including no one left to look after pensioners or fund their income.

        Likewise Poland , Romania , Czech , and with the removal of any free movement of cash back through Brexit , and of course the Daily Express pet hate export of UK Child allowance and assorted benefits means it too better have a back up plan , either for mass returning or its people have employment and housing.In the case of Cz where its biggest industry car making is now German owned , so jobs and parts manufacturing exported. Where the West should be worried here is the mindset change towards communist politicians gaining power in the economic vaccum.

        Spain , a combination of manufacturing , holiday homes , soft fruits , and ham. This is its economy , and was far too weighted in building , so when the crash came , so did unemployment. Its manufacturers by en large are German or French owned , specifically car makers – even if it did keep the name of its last one , SEAT , which is now VW. Its biggest single income region , Catalonia , has not just questioned the EU membership like the unemployed and poor workers of Spain are , but also why its a cash cow for Madrid.

        Ireland. A totally different fish , once a member of a Union as a part of British Empire , choose the EU and benefited up until the crash.

        IT was far too weighted in housing economy , as well as credit to pay for it , but took a different outlook post financial crisis and adopted a scorched earth policy with banking and housing , rather than protect the wealth of the few and bankers – offering houses for less than the price of a car , and bulldozing the rest. Today it is the poster boy of the EU for recovery , but only due to non acceptance of austerity and by throwing some banks to the wolves. But this was also achieved by courting companies for employment through tax advantages , which the EU is now deciding was uncompetitive practices – so punishment may derail that over the longer term , that is until it defines another strategy.

        Perhaps being the banking passport from London being exported to Dublin? But as we have seen it looks like that will be protected and remain , no surprise there then , Scotland no deal , London yep , Sunderland yep , Wales yep , NI yep , though different scenario for those that voted to exit.

        You can easily see similarities by those states but within the UK , its car makers foreign owned , steel makers too now closed replaced by Sino steel imports without tariffs , energy and transport foreign owned.

        Those owners export wealth , sometimes with UK taxpayer subs , and a few 1 percenter share holders and hedge funds in the UK , those responsible for it happening , all have no subs to pay , taxpayers fund it , whether its nationalised or privatized , these are the real benefits scroungers , which will never grace poverty porn tv screens or Daily Heil frontpages.

        Uk farming too reliant on imports like imported machinery , reducing jobs to farmer loans. Housing where its controlled to the benefit of banks long term profits , whom were bailed out by the taxpayer , and the mortgage assets kept inflated rather than nationalised in return at reduced cost , as well as forcing low interest rates on savers to prop up shares for the casino investor. Banking reform is still being resisted , and failure rewarded through our politicians.

        This is the consequence of a one state control of the UNION economy , Mirroring Germany/France on the EU , ie London and the financial district , and through it being over-weighted as part of GDP – Where we now all have to pay for the failure of the wealthy.

        This too may sound familiar , Darian Scheme , which lead to Scotlands Union.

        SO if the EU doesnt work for England , in that they believe control is removed to a foreign state or states , then why then is the UK one including Scotland a positive Union for the Scots which reflects the same?

        Well that answer is simple – its parasitic , and Scotland is wrongly portrayed as the parasite , just like the EU is in the English media. So perhaps its time to capitalise on the good ship Brexit , and turn it into ENGXIT.

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