Pill Warns that UK Inflation Will Remain "Persistent"

Above: File image of Huw Pill. Image © Global Utmaning, Lasse Skog. Modified from original, reproduced under CC licensing, non-commercial.

UK inflation could prove more persistent than expected, even as European gas prices fall.

This is according to Huw Pill, the Bank of England's Chief Economist who has just delivered a speech on the UK economy and monetary policy to the Money Market Association of New York University.

Pill voted for a 50 basis point rate hike in December and his views on the economy, inflation and where inflation is going, will therefore be key to how many further interest rate hikes are forthcoming.

The MPC has raised Bank Rate at each of its past nine meetings and Bank Rate now stands at 3.5%, market pricing suggests investors now expect a further two 25 basis point hikes before a pause.

But Pill's speech came out on the hawkish side, suggesting the Bank was on course to meet these expectations or even potentially exceed them.

"Inflation in the United Kingdom is currently too high. Returning UK inflation to its 2% target on a lasting and sustainable basis is essential," Pill said.

Pill focussed much of his attention on whether businesses and employees were likely to drive inflation higher over the coming months, which is behaviour he said the Bank would prefer to avoid.

"The scope for energy price rises to trigger the infamous second round effects in price, wage and cost dynamics – the dynamics that threaten to create persistence in inflation even after the original external stimulus abates – is greater when the corporate sector enjoys pricing power, and the labour market is tight," said Pill.

He said the U.S. and UK both display evidence of tight labour markets and a strengthening of corporate pricing power, which threaten inflationary pressure.

Pill nevertheless acknowledged factors that would suggest inflation will come down.

"Now that the economy has slowed (and probably entered recession), we are starting to see labour market indicators turn. Vacancies have stabilised and there are tentative signs they will fall from their historically high levels. Should economic slack emerge and unemployment rise as the latest MPC forecasts imply, that will weigh against domestic inflationary pressure and ease the threat of inflation persistence," he said.

In isolation, this paragraph would suggest the Bank's Chief Economist was prepared to consider an end to the rate hiking cycle in order to assess whether previous interest rate hikes would prove effective in bringing inflation lower.

This would make him a candidate to join the two other members of the MPC who are erring on the side of caution and are advocating the time to pause the hiking cycle is drawing close.

But, he hinted strongly there was more work to be done.

Pill noted that while gas prices have come down they remain well above long-term levels and are therefore liable to influence pricing behaviour at firms and amongst employees. Therefore, energy markets were still consistent with persistence in inflation.

He also noted the UK's labour market was now less flexible than pre-Brexit while a good portion of 50-65-year-old workers have now left the market, potentially for good.

"The distinctive context that prevails in the UK – of higher natural gas prices with a tight labour market, adverse labour supply developments and goods market bottlenecks – creates the potential for inflation to prove more persistent," he said.