Inflation is the word striking fear into global financial markets, and US data last week was far from reassuring. The world’s largest economy reported inflation running at 5% in May, up from 4.2% in April. It is on the move in the UK too, doubling to 1.5% in April, its highest level since the start of the pandemic in March 2020.
From New York and Tokyo to the City of London, traders are obsessed with the likely course of rising prices, and how central banks will react. Economists based in the Square Mile say their clients ask about little else when they demand to know which way the financial wind is blowing.
Recent interventions by the former Bank of England governor Lord King and former US Treasury adviser Larry Summers have stoked the debate.
Both warn that an inflationary spiral could soon take hold and, worse, trigger a sense of fear among consumers and businesses, who will come to believe that high and rising prices are the norm. A rise in prices also raises the prospect of countervailing interest rate increases, which augurs a serious shock for investors and households that have long been used to cheap money.
Although all eyes are on the US, Britain’s economic jump-start following the easing of Covid-19 restrictions is also seen as fuelling the inflationary fire. Figures last Friday showed that, in April, UK GDP increased for the third consecutive month – up by 2.3% – signalling that a solid recovery is under way.
One reason for the intense anxiety is the apparent nonchalance of central bank policymakers. In particular, the US Federal Reserve has refined its aim on achieving maximum employment and price stability: it has signalled that it will allow inflation to run above its 2% target over the medium term if unemployment and low wage increases remain a problem.
The Bank of England has maintained a more traditional outlook, saying it is closely monitoring inflation and will react to bring it back to the 2% target over the medium term.
However, the markets seem to believe that this difference is only semantic and that all central banks now care less about inflation than they do about a solid recovery, even if that results in a sustained period of high inflation.
While the outgoing chief economist at the Bank of England, Andy Haldane, has taken sides with King and Summers, all his colleagues in Threadneedle Street are sitting on the opposite side of the fence, if their speeches and comments at parliamentary select committee hearings are any guide.
They reject concerns about inflation, and say that where rising prices are currently a significant feature, this will be short-lived.
In the past few weeks they have been proved right: most commodity prices have tumbled relative to recent peaks. The price of timber has plunged by 30%, while those of wheat, iron ore, and semiconductors are almost 15% lower, according to BCA Research. The price of copper, together with that of other industrial metals, is also down, though by a more modest 5%.
Only oil is rising – just as it did in 2011, when an increase to more than $100 a barrel of Brent crude almost singlehandedly pushed UK inflation to 5%. Later the oil price tumbled, taking UK inflation to zero.
As many economists have pointed out, there are bigger forces at play that keep prices stable. The main one is automation. Since the early years of this century and the spread of the internet, employers have been shedding white-collar workers, ignoring trade unions and hiring increasing numbers of people on short-term contracts.
This trend eroded the ability of workers to drive up wages. The banking crash of 2008 made a bad situation worse. Workers were left shell-shocked and fearful of moving job, let alone asking for a pay rise.
At the moment, employers in a few industries hit by skills shortages are offering bonuses and signing-on fees, but there is no sign of annual salary increases gaining momentum. Covid will change many things, but the trend – seen now for more than a decade – of low wage rises and low inflation does not look like being one of them.
Drahi makes the connection at BT
Telecoms billionaire Patrick Drahi has an investment strategy that typically follows a pattern: spot an undervalued target, take control, cut costs and hive off prime assets. But his move to take a 12.1% stake in BT, making Drahi its largest shareholder, marks a break in a plan that has reaped him huge rewards for more than two decades.
Philip Jansen, BT’s chief executive, would wholeheartedly agree with Drahi’s assessment that the business is undervalued. He could have acquired his stake for almost half the £2.2bn he paid if he had pounced last summer, when BT’s stock hit an 11-year low – a time when investors couldn’t see its proposed £15bn investment in next-generation broadband paying off.
But Drahi is playing the long game, making it clear he backs management and the strategy to reap huge returns as the winner of the race to roll out full-fibre broadband across the UK. It is no coincidence that he swooped after regulator Ofcom announced a host of financial incentives to help operators recoup their rollout costs, and the government’s decision to introduce tax breaks on capital investments.
Previously a globally embarrassing laggard in full fibre, BT’s Openreach is moving at a good clip and will get it to 25 million homes by the end of 2026. And Jansen is already pushing through a painful £2bn cost-cutting programme, including stripping more than 13,000 jobs and cutting BT’s physical footprint from 300 to 30 sites across the UK.
Drahi says he does not entertain thoughts of a takeover, and in any case the new National Security and Investment Act, which gives government the power to block the takeover of businesses involved in critical infrastructure, would probably thwart any move to do so. But if BT wins the broadband race, analysts believe Openreach alone could be worth as much as £30bn – and BT, currently valued at £19bn, had a market capitalisation of 2.5 times that just six years ago. If BT can deliver, Drahi will add considerably to his near-£9bn fortune.
It’s time to give the airlines a break
A familiar cry for help rang out this week from the beleaguered aviation sector, still vainly hoping for the bespoke package of aid carelessly promised by Chancellor Sunak back when Covid had barely landed on these shores.
While the bigger airlines have taken on billions in loans and airports have been promised up to £8m each in government aid, all were hoping survival rations would not be needed by now. Instead, the industry is braced for another bleak summer without travel.
Hopes that the meagre green list of permitted holiday destinations would take in Europe evaporated with the fiasco of Portugal’s sudden removal, an echo of the uncertainty and U-turns of summer 2020. After the supposed engagement of not one but two government-led travel taskforces, with ethereal promises of transparency and a destination “watchlist”, airline executives could be forgiven for feeling misled by Grant Shapps.
Shapps, though, has pointed to £7.2bn in aid to the sector – the vast majority in loans and furlough – and must sense that the more apocalyptic predictions have not come to pass: only long-ailing Flybe is no more. Bailing out airlines that have rich shareholders is not an obvious choice for “levelling up”, or for advancing the decarbonisation agenda. But ONS data confirms that the downturn from Covid has hit aviation far harder than most industries, and ordinary employees have paid the price. A pledge to extend the furlough for airlines unable to trade could at least secure more skilled jobs.
The fact is that demand for flying remains strong: as the prime minister remarked at the G7 on Friday, it made a huge difference to meet his peers face to face. The UK will need its – for once, genuinely – world-leading aviation sector again. The government should not be bounced into giving it any long-term tax breaks, but the industry deserves more consistency and care than ministers have yet shown it.