Inflation in focus again after QE2

Sluggish economic growth has been the main economic worry recently, but the Bank of England's decision to expand quantitative easing has put inflation worries to the fore again.

The decision by the Bank of England to expand the quantitative easing programme by £25bn to £75bn has once again put inflation back in the spotlight.

Even before the launch of “QE2” inflation had been expected to rise to 5% later this year. The Bank of England estimates that the first round of quantitative easing, “QE1”, pushed up inflation by between 0.75% and 1.5%, so it will be interesting to see how the latest round influences inflation.

In an interview following the launch of QE2, Bank of England governor Mervyn King said that figures later this month are likely to show inflation above 5% though this should be a peak.

The latest monetary policy move shows that the Bank is more concerned with sluggish global growth than with inflation. It also argues that many of the factors behind the present high rate (well in excess of the government target of 2%) are temporary. The recent round of price rises by utility companies was linked to surging oil prices, a factor unlikely to be repeated, especially as prices have been moderated. The rise in VAT at the beginning of the year will, if anything, be reversed.

Nevertheless, inflation remains a big issue for the British consumer – and a headache for the Bank of England. Producer prices – the amount factories charge for goods – rose by 6.3% in September compared with the same month last year.

Shop price inflation, the figure that really matters to consumers, was flat at 2.7% in September indicating that stores are reluctant to pass on prices rises to shoppers. Shop price inflation figures are compiled by the British Retail Council (BRC).

Like King, the BRC’s director general Stephen Robertson does not expect any change in fundamental conditions this year but he adds: “Next month we'll see what effect the supermarket price war - based on straight price cuts rather than other forms of promotion – is having on food inflation."

Putting the current inflation rate into perspective, Mike Watkins, senior manager of retailer services for Neilsen, the research group that helped the BRC compile the figures, said: “While food prices remain five per cent higher than a year ago, it certainly looks as if the peak of 2011 will be a lot lower that than the high of over 8% that we saw at the start of the economic downturn three years ago.”

High short-term inflation – and the risk of prolonged high prices – may be a price worth paying to kick-start the broader economy, though that will be little comfort to those who rely on savings for their well-being.