Low Inflation in the UK
Reasons for Low Inflation in the UK
1. Economic growth has been more stable and predictable. The MPC have avoided a boom and Bust economic cycle. At the first sign of inflationary pressures increasing they have increased interest rates to reduce inflation before it occurs (policy is known as pre emptive monetary policy.) This has avoided a repeat of the late 80s inflationary boom.
2. Inflation expectations are lower. Partly as a result of the MPC's greater credibility. People expect inflation to be low, therefore wage demands have been correspondingly lower. This has made it easier to keep inflation low.
3. The process of globalisation has helped to reduce costs and increase competitiveness in global markets. The UK has benefited from falling prices of manufactured goods that have been made in countries like China and Korea.
4. Improvements in technology. The internet and micro chip computers have helped to increase efficiency and lower costs.
5. Increase in the labour supply. Increased immigration has created a new supply of cheap labour which has helped keep wage pressures low.
6. Appreciation of £. This has helped reduce inflation, because imports are cheaper and quantity of exports lower
However inflation may increase in the future. The Governor of the Bank of England recently said there is no reason why the past period of stability and low real interest rates will continue. Several reasons may cause inflation to rise in the future including:
Why Inflation May Rise
1. Economic growth in China and India is causing high demand for commodities and therefore prices are rising. This will feed through into cost push inflation.
2. The UK has a large current account deficit. To reduce this deficit it will be necessary to have a devaluation in the value of £, at some point.
3. The supply of labour is unlikely to increase by too much in the future. Therefore wage inflation may become a problem as the labour market nears full employment.
4. UK House prices continue to rise. This creates additional consumer wealth and therefore increases consumer spending.
The effect of this is that in the future interest rates may have to rise in order to keep inflation low. This will have the effect of keeping mortgage payments high.
Related Tags: economics, inflation
Richard Pettinger studied Politics and Economics and Lady Margaret Hall, Oxford University. He now works as an economics teacher in Oxford. He writes frequently on Economics and the UK housing Market.
Richard's Economic and finance blog
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