The Bank of England’s chief economist warned on Monday that Britain faces a more serious threat of persistently high inflation than other advanced countries, signaling that interest rates may need to stay high for longer.
In an aggressive speech in New York, Huw Pill suggested that the UK’s “signature” inflation problem combined the worst price problems in the US and Europe.
He said the BoE had to deal with a rise in natural gas prices first, but the risk of persistently high inflation was mitigated by low unemployment, Britons exiting the labor market and companies finding it relatively easy to raise the cost of their products increase, amplified.
In response, Pill said the central bank’s Monetary Policy Committee had hiked interest rates from 0.1 percent in December 2021 to 3.5 percent last month in nine consecutive hikes, but said it was unlikely to do so.
Pill, an MPC member, highlighted the “continuance” of inflationary pressures in the UK as crucial, adding: “The particular context prevailing in the UK – higher natural gas prices in a tight labor market, adverse labor supply developments and commodity market constraints – creates the potential for more sustained inflation.”
He said this combination will “strongly influence my monetary policy stance in the coming months.”
Pill outlined three inflationary challenges central banks around the world had to contend with: raising interest rates from ultra-low to more normal levels, the ability of companies to raise prices and tight labor markets pushing up wage levels, and an impending energy shock from Invasion of Russia into Ukraine.
He said that all advanced countries are facing the first problem, the US and Britain are facing the second, and European countries are still struggling with the third, although wholesale energy prices have fallen sharply in recent weeks.
“None of these challenges are unique to the UK,” Pill added. “But – at least as I have described it – the UK is characterized by tackling all three challenges simultaneously.”
Economists expect UK inflation to have peaked at 11.1 percent in October and that the rate will fall sharply this year as energy price increases fall out of the year.
But with unemployment near a 50-year low, private sector wages rising at an annual rate of nearly 7 percent and companies expecting another sharp rise in prices this year, Pill was concerned that inflation was well above the BoE’s 2 percent would stay goal too long.
He said this persistently high inflation is harmful and would result in the BoE having to raise interest rates even more and keep them high.
Pill added that the MPC was committed to “reacting vigorously” if there was a risk of persistently high inflation.
“There is more room for energy price hikes to trigger the notorious second-round effects in price, wage and cost dynamics. . . is greater when the corporate sector enjoys pricing power and the labor market is tight,” he said.
Financial markets expect the BoE to hike rates by another percentage point to 4.5 percent by summer and hold that level until spring 2024, but not drop below 4 percent by the end of next year.
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