Earlier today UK economic data confirmed that the recent hike by the ECB may well have been the dumbest decision taken in Europe in 2011 (aside from continuing to bail out continental bankers with impunity). Consumer prices rose 4 percent from a year earlier after a 4.4 percent increase in February, the Office for National Statistics said today in London. The cost of food fell the most in almost four years. Consensus inflation was for another 4.4% rise. The reason why inflation plunged - a complete obliteration in retail sales, which fell by a record in March, the British Retail Consortium said today, removing any pricing power by retailers. Of course, in America where the government is doing all it can to prevent deadbeats from paying their mortgage, we still have a long ways to go before retail sales actually drop to the point where inflation is constrained by actual real "pro forma" wages. Most importantly, this outcome confirms that the BOE was lucky enough not to rush and hike ahead, leaving the ECB as the only central bank with a tightening regime and one which will soon bring Spain to the brink of insolvency.
Some observations from Goldman on the UK economy:
BOTTOM LINE: CPI inflation fell from +4.4%yoy to +4.0%yoy in March, its first decline for seven months and significantly lower than expected (GS: +4.6%, Cons: +4.4%). This constitutes the first downside surprise to consensus expectations on CPI inflation for almost a year, and the largest downside surprise for almost four years. Realised inflation in Q1 is nevertheless close to what the MPC forecast in its February Inflation Report, though the March CPI reading implies downside risk relative to the committee's mean forecast for Q2 (+4.4%yoy).
1. The main contributors to the +4.0% rate of year-on-year CPI inflation in March were again commodity price-related: fuels and lubricants rose +15.9%yoy and air fares rose +4.2%yoy. The decline in the rate of year-on-year inflation (from 4.4% to 4.0%) between February and March was driven by price changes in basic food items. According to the ONS, these reflected supermarket-led sales. In the opposite direction, increases in electricity and gas bills again exerted upward pressure on inflation.
2. Today's data constitutes the first downside inflation surprise to consensus expectations for ten months, and the largest surprise for more than three years (Chart 1). But it leaves average inflation in Q1 (+4.1%yoy) now exactly in line with the MPC's mean forecast from February. It's still too early to assess whether today's print reduces the "significant risk" expressed by several MPC members that inflation breaches 5% in the near-term. However, this tentative sign of retreating inflation, combined with a softening of the official monthly data (February IP and construction, for example), will only complicate an already disparate constellation of views on the MPC regarding the appropriate balance between soft activity and high inflation.
3. Also of note, the ONS has recently published its estimate of the impact of the January VAT increase on CPI. According to that analysis, the pass-through from retailers to consumer prices added just under 0.8%pts to year-on-year inflation in January: had VAT remained at 17.5%, January 2011 inflation would have come in closer to +3.2%yoy than the realised +4.0%yoy.
4. The VAT increase will continue to have a base effect on inflation through the duration of 2011. Combined with a rising contribution from commodity and food prices, we expect CPI inflation to remain close to 4% throughout 2011. Over the medium-term, downward base effects from recent energy price increases kick in only at the tail-end of this year, allowing a decline in headline inflation to around 3% by December. These downward forces are then likely to be amplified by base effects in early 2012 (from the January VAT increase) and extended through the first half of next year.
5. In other data overnight, the BRC survey registered like-for-like retail sales growth of -3.5%yoy in March, down from -0.4%yoy in February and the weakest reading since April 2005. The timing of the Easter holidays (in March 2010 but April 2011) is likely to have been a significant driver of this contraction: sales grew +4.4%yoy this time last year, implying a considerable negative base effect on today's figures. Even then, however, the indications are that sales volumes in March are likely to soften in the ONS retail sales series (Chart 2).
6. According to the BRC, the March decline was also driven by weakness in "big-ticket home and furniture purchases" which were "often promotion-led." The overnight data from the RICS Housing Market Survey for March reflected this: the balances indicative of activity in the housing market (new buyer enquiries, for example: housing turnover is well correlated with demand for consumer durables) remained stagnant (Chart 3), despite a small improvement in house prices.