UK economy could benefit from ‘good deflation’, says Cebr

PoundNoteXCUThe UK economy edged closer to deflation as annual growth of the consumer price index (CPI) fell from 1% in November to just 0.5% in December, according to data released by the Office for National Statistics yesterday. This is the joint lowest rate of CPI inflation on record, equal with 0.5% seen in May 2000.

“The main contributions to the fall came from the December 2013 gas and electricity price rises falling out of the calculation and the continuing drop in motor fuel prices (reflecting the collapse in global oil prices). Falling food prices – a result of intense competition among UK supermarkets – have also played a major role in the low inflation figures,” the Centre for Economics and Business Research (Cebr) said in a statement.

According to Cebr, disinflationary pressures look set to continue in the first half of 2015. Retailers are still in a phase of intense competition, petrol prices should fall back further in the first half of the year and utility companies are likely to cut prices given developments in wholesale markets. Already, E.ON has announced a 3.5% cut to its standard gas prices, and other utility providers will almost certainly follow suit. Cebr said that, with prices for a number of essentials lower now than a year ago, the prospect of inflation on the CPI measure dipping into negative territory – i.e. deflation – is now very real.

However, Cebr claims that a bout of ‘good deflation’ could be just what is needed by the UK economy. Cebr says that, when the main driver of deflation is falling essentials prices – such as food and petrol – this could result in freeing up household spending power for more discretionary goods.

“While even this kind of deflation may have negative consequences if persistent – falling prices mean that the inflation-adjusted value of household and government debt rises – a brief bout should prove virtuous. With weak economic growth in the Eurozone and no hope of an export-led recovery anytime soon, the boost to household spending power from falling food, transport and utility prices could be the shot in the arm that the UK economy needs to maintain momentum in 2015 – especially when combined with the pick-up in earnings growth which Cebr expects to emerge this year,” Cebr stated.