As UK Prices Spiral, The Only Certainty Is Stagflation

UK inflation is double digits. Again.

For the second time this year, headline price growth in the UK reached 10%, ONS data out Wednesday showed.

The 10.1% print for September was slightly higher than expected and served as another reminder of the crisis facing the nation’s households amid spiraling energy prices, an economic meltdown and political chaos.

“We think we’re only fractionally away from the peak now [but] in practice we’re likely to see inflation hover in the 10-10.5% range through January,” ING said.

On a monthly basis, CPI rose 0.5% in September. Rising food prices were the biggest contributor to the MoM change in both headline inflation and CPIH, which includes owner occupiers’ housing costs.

CPIH likewise returned to July’s peak, printing 8.8% on a YoY basis for September. That’s the highest since December 1990, according to a constructed series from ONS.

The modern CPI series starts in 1997. For what it’s worth, indicative modeling suggests CPI would’ve been higher in 1982, at around 11%.

For both CPI and CPIH, the largest contributors to the 12-month increases were, of course, housing and household services, followed by food, which overtook transport last month (figure below).

Electricity, gas, owner occupiers’ housing costs, food, non-alcoholic beverages and transport accounted for 5.5 percentage points, or around two-thirds of the annual CPIH inflation rate.

Food costs are soaring. The inflation rate for food and non-alcoholic beverages hit a 42-year high last month, at nearly 15% (figure below).

That’s obviously untenable. The ubiquity of the word “untenable” in macro discussions this year says a lot about 2022.

“I understand that families across the country are struggling with rising prices and higher energy bills,” Jeremy Hunt said Wednesday, in a statement. “This government will prioritize help for the most vulnerable.”

Unfortunately, everyone is in a bind — households, fiscal policy and monetary policy. Hunt on Monday scrapped virtually all of the tax cuts from Liz Truss’s growth plan amid a historic market rebellion that at one point saw the pound trade at an all-time low versus the dollar.

Placating markets was crucial in the inflation fight. Don’t lose track of that. This wasn’t just about appeasing the bond vigilantes and bailing out LDI strategies. The pass through effects from sterling’s epic drop are straight forward, but note that two-year swap rates (and vol) in the UK surged late last month as gilts collapsed. That dictated repricing in mortgage products.

At the same time, the BoE’s emergency bond-buying was optically contrary to the bank’s inflation-fighting efforts. It entailed conjuring reserves at a time when the bank intended to be actively trimming its gilt holdings. There again, calming markets such that the bank wasn’t compelled to persist in gilt purchases was critical. On Tuesday, the bank had to refute FT reporting which suggested the onset of QT would be delayed. It’ll go ahead, as planned, on November 1, although sales will be confined to short and medium maturity sectors. I doubt it’ll last.

Hunt’s repudiation of the growth plan may take some medium-term pressure off the BoE to the extent tax cuts and prolonged energy subsidies won’t prop up demand and thereby stoke inflation, but at the same time, the onset of what looks like austerity raises the stakes for whatever additional rate hikes the bank does implement. And make no mistake, they’re still going to hike dramatically over the next few meetings, even as Hunt’s intervention relieved quite a bit of pressure.

“All government departments are being told to find savings, which outside of health and defense are expected to be as much as 15% of budgets,” Bloomberg reported, citing sources familiar. “No options are off the table and Jeremy Hunt has even refused to guarantee he will stick to a key Conservative Party manifesto pledge to raise the state pension in line with the highest of inflation, wages or 2.5% — known as the ‘triple lock.'”

Hunt’s policies, however necessary, are politically ruinous at a time when Truss has already doomed Tories. Hunt denies his measures are tantamount to austerity, but they’ll certainly look like it to many observers, and Labour will paint them as such. Hunt is effectively in control of the government, and he’s running policies which are, in some cases, diametrically opposed to Truss’s agenda.

A hawkish BoE risks exacerbating the impact of austerity-lite, and that could be all the more true next year, when the energy guarantee rolls off for many consumers. Recall that Hunt is only keeping the universal energy price cap in place through Q1. “The Chancellor’s decision to make the government’s energy price support more targeted could see most consumers switch back to the Ofgem-regulated price from April,” ING’s James Smith said, noting that “such a scenario could add between 2-3pp to headline inflation from April onwards.”

There again, the BoE would be in a bind. Headline inflation could effectively reset higher, but the associated drag on demand would compel policymakers to consider the risks around hiking the economy further into recession.

Ultimately, everyone from Hunt to Andrew Bailey to UK consumers is staring at a highly vexing “damned if I do and damned if I don’t” macro quagmire. The only certainty appears to be that the nation is headed for a prolonged bout with stagflation.