June 18, 2008 | posted by Michael Baxter in inflation |

Oh governor, what did you say?

“Money spending is increasing at a normal rate.  In the year to 2008 Q1, it rose by 5½ per cent, in line with the average rate of increase since 1997, a period in which inflation has been low and stable.”

And in that one sentence Mervyn King may have committed a major faux pas.

This debate over inflation has a lot more to it than the internal affairs of Britain.  And so did the years of modest inflation we saw earlier this decade.

Let us remember the late 1990s and early noughties.    This was the era of a retail boom, of consumer borrowing, of tiny saving. An era in which we saved though our houses, and that was about it.

We should have had inflation.  That we didn’t was down to a number of factors.  One is still with us, and working – weaker unions, meaning more modest wage rises.  But the other two factors have gone.

First there was the Internet; this prompted price competition never seen before, and surely was the catalyst to the fierce price competition which then followed on the High Street.  But this was a one-off, and has had its effect now.

Then there were cheap goods from China, India et al.  Well, that period is at an end.

Suppose we had experienced the spending boom of the late 1990s and early noughties with these factors which don’t apply today.    It seems likely we would have had inflation – severe inflation.

All the factors that the text books say should cause inflation were in place; instead, due to factors outside the control of central banks, we had low inflation.

Now the Bank of England is saying we should relax because spending is only growing at the same rate seen since 1997.  ONLY?

The last ten years or so have seen this curious position of lack of kilter.   In the UK and US we weren’t saving enough.  In China, Japan and the oil exporting countries, saving was too high.     That was another reason why inflation was so low; perhaps it was the true underlying reason.

Economies said this had to change. Now it is changing.   The credit crunch is forcing us to save more.    The rise in the price of oil and food is down to consumers in places such as China spending more.

In short, inflation is down to the global economy changing the way economists said it should.

That is the true issue at stake today.