Friday, 6 July 2007

UK Inflation

Interest rates went up today, to 5.75% because of continuing inflationary pressure. BoE statement:

"Although pay pressures remain muted, the margin of spare capacity in businesses appears limited and most indicators of pricing pressure remain elevated. The committee judged that, relative to the 2% target, the balance of risks to the outlook for inflation in the medium term continued to lie to the upside."

However, this isn't strictly true. Overall prices have risen only by 0.4% down from 0.5% last month. However, it is house prices that are the main issue, which has risen by 10% (annually).

The inflationary pressure is mostly likely caused by house prices, surely a case of demand-pull inflation. There's a market failure somewhere in that the private sector isn't jumping into the housing market to build new properties at the required rate. Perhaps this is a combination of local government planning permission problems as well as (maybe) cartel like behaviour.

Nonetheless, the government can step in and reduce house prices without punishing ordinary mortgage payers who barely get by as it is. Just fix the supply problem! Interest rates are a very blunt measure and will cost the economy down the line. The structural problems need to be solved and supply needs to increase. Gordon Brown has said he'd do this, lets hope he does.

3 comments:

Chris said...

Dush,

I may be misreading you here, but how would a government imposed price ceiling lead to an increase in the supply of housing?

- Chris Cella

Dush said...

Sorry, shoulda been clearer. I meant government built housing, thus increasing supply and reducing demand-pull inflation.

Of course price limits lead to Zimbabwe style inflation!

Chris said...

Right - I was making that mistake when I read. I thought it was odd to recommend price limits as a way of curbing inflation! :)

I think more investigation into the problem would be needed before calling for government implemented housing. The 'market failure' may be indicative of some other illness.

But your analysis is concise. Interesting article.