In the current unprecedented economic circumstances, politicians and policy-makers are having to learn as they go. So are economic commentators. It was widely predicted by economists in the City and the media that the latest inflation figures would show the Retail Price Index (RPI -- a broad measure of inflation) plummeting into deflation territory with prices falling by around 0.8 percent, while the Consumer Price Index (CPI -- which excludes housing costs) would slump from 3 percent to closer to 2 percent, a harbinger of further falls to come.
They were wrong. The headline RPI fell only to 0 percent in February from 0.1 percent in January while the CPI rose to 3.2 percent in February from 3 percent. Even the underlying rate of RPI inflation rose to 2.5 percent from 2.4 percent. If, as a lay person, you're baffled, you have every right to be: there's a lot of egg on a lot of economists' faces this morning!
Consider the bizarre position we are now in: on the one hand the RPI is zero, its lowest rating since March 1960, when Harold Macmillan was Tory PM and a young Senator called John F Kennedy was running for President. On the other hand, the CPI is over 3 percent, which means Bank of England Governor Mervyn King has had to write a letter to the Chancellor explaining why CPI inflation is more than a full percentage point above the official 2 percent target.
In his letter, Mr King said that despite the increase in CPI inflation last month "we believe that the sharp decline in CPI inflation since its peak in September is likely to resume in the coming months. It is likely over the next year CPI inflation will move below target, although the profile of inflation could be volatile. [my italics]"
So instead of all the worries about deflation, the Governor and the Chancellor are engaged in a discussion about why inflation is too high! Bizarre indeed: it suggests that the inflation dragon is not quite as extinguished as many economists would have us believe and that deflation is not quite the threat it's been made out to be.
So what's going on? Well, the RPI is zero largely because mortgage costs and house prices have plummeted as interest rates have collapsed -- but not by as much as experts expected. The number of mortgages approved for house purchase increased for the third month in a row during February, rising to 28,179 from 24,278 in January, according to the British Bankers’ Association, which suggests that the housing market is not quite as moribund as we thought.
The CPI does not reflect housing costs but does measure the cost of things people are buying in the shops and it's rise to 3.2 percent suggests that prices on the high street are more buoyant than has been reported. Two reasons why that might be so: collapsing mortgage payments have given some families more money to spend; and the collapsing pound has raised the price of imported goods (especially food and drink -- and transport, which depends on imported fuel). Together they have pushed prices up.
No doubt the RPI will slip into negative territory in the months ahead and the CPI will resume its descent, as the Governor predicts. But those who have been warning that the government's massive fiscal stimulus, unprecedented borrowing and printing of money will unleash a huge inflationary spiral will be feeling a little vindicated this morning. Inflation not yet dead, even in these recessionary times, and it could soon return with a vengeance.
The political fallout from this morning's surprise figures is clear: the Chancellor's attempts, with the backing of the Treasury, to see off Gordon Brown's pressure for yet more fiscal stimulus in his April 22 budget have been strengthened. Yesterday the Chancellor could point to the support of the head of the European Central Bank, who came out against further stimulus, as have the President of France and the Chancellor of Germany. Last night the boss of the IMF was also sniffy about another boost. Now the Chancellor can point to an inflation rate over 50 percent above the government's official target as another reason why he shouldn't take any more risks with the economy.
Gordon Brown used to taunt the Tories that there were the only ones against a fiscal stimulus. That was then. Now it looks as if the only ones in favour of more pump-priming are the PM and the man he calls "Barrack" in the Oval Office.