Inflation or Deflation Re-examination
November 30, 2008
Before dealing with November I should address my overeager prediction made in October, that inflation won’t fall but will increase. As from September to October inflation fell from 5% to 4.5% on face value I’m not looking like I’m on-top of this situation as inflation has in fact fallen. However bear with me on this one, because although inflation has fallen due to the drop in oil prices feeding immediately into the lower petrol prices, the rest of the price decreases that should lower inflation might not arrive as fast as people expect (if at all).
Although fuel price reductions arrive quickly (not as fast as they went up but still noticeable), the banks have already shown that they will maximise the difference between savers rates and lending rates to help increase profitability, to the point that the Prime Minister Gordon Brown has to get involved.
A better example of where fuel prices match the real delivery of price decreases to the economy is in the gas market. Although the oil price has dropped to a third of its summer peak, the price of gas has failed to reach customers fast enough to avoid some rather expensive winter gas prices. Although the gas prices might eventually fall, even the government has noticed the excessive profit taking the gas companies are embarking on by charging more over winter and then bringing in cheaper prices over summer when there’s less demand. Although gas was paid for in advance when wholesale prices where higher, I would put a months wages on profit growth for all the UK gas suppliers over this winter, based on high sales price and lower supply costs. This doesn’t even account for Russia’s blatant supply threats every winter since 2005 bolstering the price of gas.
The next example of where we’ve enjoyed lower prices is in the shops, but as the situation with Woolworths shows, obtaining purchase insurance against goods (which is what allows stores to fill their stores with goods purchased on credit) which are then paid for after the seasonal sales period is over and the cash has been taken off the customers, is a practice that is coming to an end. This Xmas will probably be the last time we see the sorts of huge discounts we have seen for the last decade.
This is simply because of economies of scale – the more you buy the cheaper the unit cost. If you are buying on credit you can buy more than you can with cash, and so in the selling process you can lower the prices below your normal unit price and call it a sale. No credit insurance against these purchases means lower volumes will be acquired at higher unit costs, resulting in less price cutting at the point of sale.
As seasonal sales have helped the UK economy keep inflation down in the clothing sector, along with a strong pound, the absence of cheap clothes combined with higher import costs will really start to appear in the sales price by the middle of 2009.
Many of the businesses that are wholesale and not retail will probably want to keep hold of the profit from reduced supplier costs, to repair their own gross margins, and this will delay, if not prevent altogether, any lower costs reaching consumers in many retail businesses, anywhere from furniture to food.
Finally, just as in the 1970’s, big government spending in the economy on building projects will result in inflation, but without delivering sustainable benefits. However, this may take time to arrive in the inflation figures.
In my October post I did say inflation won’t fall, but that is rushing straight to the end of this process without accepting that global prices of goods are falling and we will see reductions in prices. However, for the reasons I’ve detailed above, I do expect the small drop in prices to be followed by a massive rise in prices, not just for the above commercial reasons but because monetary policy at the Bank of England has been relaxed so much to stimulate demand that eventually they will avoid the deflation that the government fears. However, the inflation tap they have turned on at full throttle to counter this problem will not be turned off that easily, and we will be talking of the concerns caused by double digit inflation much faster than most economists expect.
November 30, 2008
Before dealing with November I should address my overeager prediction made in October, that inflation won’t fall but will increase. As from September to October inflation fell from 5% to 4.5% on face value I’m not looking like I’m on-top of this situation as inflation has in fact fallen. However bear with me on this one, because although inflation has fallen due to the drop in oil prices feeding immediately into the lower petrol prices, the rest of the price decreases that should lower inflation might not arrive as fast as people expect (if at all).
Although fuel price reductions arrive quickly (not as fast as they went up but still noticeable), the banks have already shown that they will maximise the difference between savers rates and lending rates to help increase profitability, to the point that the Prime Minister Gordon Brown has to get involved.
A better example of where fuel prices match the real delivery of price decreases to the economy is in the gas market. Although the oil price has dropped to a third of its summer peak, the price of gas has failed to reach customers fast enough to avoid some rather expensive winter gas prices. Although the gas prices might eventually fall, even the government has noticed the excessive profit taking the gas companies are embarking on by charging more over winter and then bringing in cheaper prices over summer when there’s less demand. Although gas was paid for in advance when wholesale prices where higher, I would put a months wages on profit growth for all the UK gas suppliers over this winter, based on high sales price and lower supply costs. This doesn’t even account for Russia’s blatant supply threats every winter since 2005 bolstering the price of gas.
The next example of where we’ve enjoyed lower prices is in the shops, but as the situation with Woolworths shows, obtaining purchase insurance against goods (which is what allows stores to fill their stores with goods purchased on credit) which are then paid for after the seasonal sales period is over and the cash has been taken off the customers, is a practice that is coming to an end. This Xmas will probably be the last time we see the sorts of huge discounts we have seen for the last decade.
This is simply because of economies of scale – the more you buy the cheaper the unit cost. If you are buying on credit you can buy more than you can with cash, and so in the selling process you can lower the prices below your normal unit price and call it a sale. No credit insurance against these purchases means lower volumes will be acquired at higher unit costs, resulting in less price cutting at the point of sale.
As seasonal sales have helped the UK economy keep inflation down in the clothing sector, along with a strong pound, the absence of cheap clothes combined with higher import costs will really start to appear in the sales price by the middle of 2009.
Many of the businesses that are wholesale and not retail will probably want to keep hold of the profit from reduced supplier costs, to repair their own gross margins, and this will delay, if not prevent altogether, any lower costs reaching consumers in many retail businesses, anywhere from furniture to food.
Finally, just as in the 1970’s, big government spending in the economy on building projects will result in inflation, but without delivering sustainable benefits. However, this may take time to arrive in the inflation figures.
In my October post I did say inflation won’t fall, but that is rushing straight to the end of this process without accepting that global prices of goods are falling and we will see reductions in prices. However, for the reasons I’ve detailed above, I do expect the small drop in prices to be followed by a massive rise in prices, not just for the above commercial reasons but because monetary policy at the Bank of England has been relaxed so much to stimulate demand that eventually they will avoid the deflation that the government fears. However, the inflation tap they have turned on at full throttle to counter this problem will not be turned off that easily, and we will be talking of the concerns caused by double digit inflation much faster than most economists expect.
