We’re into February now. We’re starting to get economic data that covers the post-election period. So how’s the UK economy doing now that the political situation is a tiny bit less uncertain?
Let’s start with this week’s data. Yesterday, UK inflation came in significantly higher than expected. Consumer prices index inflation (CPI – the official Bank of England target measure) rose by 1.8% year on year in January. That’s still below the Bank’s 2% target, but it was quite a leap from the 1.3% seen in December.
Meanwhile, inflation according to RPIX (the retail price index excluding mortgage interest costs) rose at an annual rate of 2.8%. RPIX used to be the Bank’s target measure – back then, the target was 2.5%, so we’re above target now.
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It’s a good thing they don’t use that measure anymore, eh? (My colleague Merryn explains what the difference is between the two here).
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The economic data for the UK has been pretty decent
The good news is that wage inflation continues to outstrip price inflation. Earlier in the week, we learned that average weekly wages in the UK rose by 3.2% year-on-year (excluding bonuses) in the three months to December.
That’s a slowdown compared to previous months, but it’s still a healthy clip. And given that employment is currently so high, you have to think that there will be increasing pressure on wages to rise.
Meanwhile, other data suggests that Britain is indeed enjoying a post-election economic bounce, offsetting the weak ending to 2019. No, I’m not talking about the news that house prices are rising which, despite the various “Brexit bounce” headlines, is actually based on official data that pre-dates the election.
Instead, I’m talking about retail sales. Data released this morning was much better than expected (and a lot better than all the “the end of the high street” headlines would have you believe). Retail sales volumes rose by 0.9% month-on-month, which was ahead of the 0.7% analysts had expected. And excluding petrol sales (which don’t necessarily tell us much about appetite to spend), sales were up 1.6% on a monthly basis, the biggest rise since May 2018.
So, for the time being, this is all pretty healthy looking. At these levels and these rates of change, neither price inflation nor wage inflation are going to cause the Bank many sleepless nights. Central bankers across the globe want inflation to be higher, so the fact that the UK is not at risk of deflation will be the main thing as far as the Bank is concerned.
Don’t be surprised if money gets even looser from here
It does, however, suggest that more interest rate cuts are going to be very hard to justify. Which is quite a change when you think about it, given that the market was until very recently almost convinced that there would be a cut last month.
Not that rate cuts by the Bank particularly matter at this point. I think you could argue that the biggest economic effect that cutting rates has in the UK is to make mortgages cheaper. When you make mortgages cheaper for people with variable rate mortgages, it’s like a tax cut – they end up with more money in their pockets.
This is less of a stimulus at the moment, because lots of people have fixed-rate mortgages. But there are other ways in which lower rates boost sentiment and spending power. When you make mortgages cheaper, you make houses more expensive (if you can borrow more, you’ll pay more).
If houses become more expensive, people feel more relaxed about the state of their personal balance sheets. When that happens, they spend more. They might even borrow more against the perceived value of their homes. This is what economists describe as the “wealth effect” (in the US, the stockmarket is more a driver of the wealth effect – here it’s houses).
So what’s my point?
Well, you don’t need the Bank to cut rates to make mortgages cheaper. You just need to create conditions in which high street banks and other lenders feel the need to compete to attract customers for mortgage loans.
When banks compete with each other to lend, two things happen. The cost of borrowing goes down, with banks taking the pain in their profit margins. And the stringency of credit checks is loosened, with banks looking for reasons to say “yes” rather than “no”.
It looks as though we’re getting into this territory now. Lloyds Banking Group (in which I own shares, I hasten to add) reported its results this morning. In among all the other stuff (such as finally drawing a line under PPI compensation), the bank warned – and I quote the FT here – “that its ability to make money this year will be constrained by fierce competition in the mortgage market”.
If you want to know why house prices are perking up again, this is what you should blame – not a “Brexit” or “Bojo” bounce.
What does it all mean?
Put aside all your political convictions for a moment. Everyone has been worrying about a bust. The risk is that we get a boom instead. Just bear that in mind when you’re looking at your asset allocation.
