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RPI inflation falls to minus 1.2% to record biggest drop since records began

In April 2009 the Retail Prices Index (RPI) fell from -0.4% in March to -1.2% in April. This was the biggest fall in prices since records began in 1948. The recent fall into negative territory for the RPI has been due to the huge cut in interest rates over recent months, as the Bank of England has reduced rates from 5.0% to 0.5%. This has brought down mortgage interest rates which is a cost included in the RPI. This rate is still of significance because it is used by many employers for wage bargaining purposes and will serve as a constraint on the growth in average earnings.

 

The measure which the Bank of England targets at 2% is the Consumer Prices Index (CPI) and this also fell at a faster rate than economists were forecasting in April. It fell from 2.9% in March to 2.3% in April, although this is still higher than the 0.6% recorded in the eurozone and most other major developed economies. The recent changes in the UK inflation rates can be seen in the graphic below.

Source: ONS

Source: ONS

 

The CPI declined due to falling gas and electricity bills and some cheaper food costs. However, food prices are still rising at a rate of 9.2% which is hitting pensioners and others on low incomes particularly hard. Core inflation, which strips out volatile elements such as energy prices and food, fell to 1.5% in April from 1.7% in March.

 

Why is UK CPI inflation still stuck above that of most other advanced countries? The main reason is the fact that sterling has depreciated by 25% since the middle of 2007, which has pushed up the prices we pay for imported goods. Around one-third of the goods used to measure the CPI are imported.

 

On balance, the Bank of England expects inflation to continue to fall and to be around 1% in a further two years time. Sterling appreciated slightly yesterday, and this coupled with increased unemployment fostering lower demand, will combine to keep inflation down.

 

Economists are divided over the future. Some think that inflation will continue to fall and that we might slip into a deflationary spiral as has affected Japan over the past twenty years. However, some others believe UK CPI inflation will remain stubbornly higher and that the Bank may have to increase interest rates sometime next year.

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Posted in Deflation, Inflation, Interest rates, sterling

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