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Job losses ‘the only way to fix the domestic inflation challenge’

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04/11/2022
The external shocks of food and energy inflation are expected to ease next year. But the domestic challenge of record low unemployment and high vacancies can only be fixed by job losses, a senior economist suggests.

Food price inflation will continue for the next six months or so but together with energy, this inflation is anticipated to ease next year, a senior economist suggests.

Households up and down the country have been grappling with soaring inflation and while this isn’t unprecedented in the UK– back in the 1970s and 80s interest rates rose aggressively to curb inflation – external shocks have compounded the issue.

The latest figure for September saw it rebound to 10.1% from 9.9% in the previous month. It’s hard to believe that just a year ago it stood at 3.1%.

External shocks

It’s been ramped up by rising food and energy costs which are largely out of the control of both the government and the Bank of England, Azad Zangana, senior European economist & strategist at Schroders explains.

Putin’s illegal invasion of Ukraine is the contributing factor, as it led to a severe disruption of the supply of oil and gas.

While the UK doesn’t import gas from Russia, it does so from Norway, with prices set on EU markets.

As all of Europe is now avoiding buying gas from Russia, and with it being harder to store and ship natural gas, this all makes it much more expensive which is why energy bills are going up, Zangana explains.

Meanwhile, the war also disrupted grain and commodity supplies and as such, we’re “likely to see food price inflation continue to rise probably through to around May next year”.

Speaking at the Schroders Personal Wealth Inflation panel hosted by TV and radio presenter Kate Thornton, Zangana says: “In a year’s time, a lot of the inflation caused by those [external factors] will have come out of the annual calculation. Prices will still be high but not as high as in the last year.”

Domestic inflation challenges

He says that the real challenge lies domestically and came in the aftermath of the pandemic.

“The high inflation started just as the pandemic was coming to an end. A lot of businesses were reopening, people suddenly found they saved a lot of money as they were not spending in the usual way. They were able to spend freely again, re-enjoy those coffees and holidays. But they were met with restrictions. A lot of companies weren’t able to scale back up in the way they were running before the pandemic.”

He explains that most service sectors had to shut down and let staff go, but they had bills and loans to repay so they had to increase prices.

“For households, they didn’t mind paying that as they saved money in the pandemic, so demand remained strong”.

Lack of staff

In the meantime, job vacancies rose to a record high of two million as workers exited the job market while unemployment remained at record low levels.

Zangana says: “Even if you can match up the skills and profiles, you still wouldn’t have enough people.

“The inflation problem in the UK – and most other countries – is more serious and more domestically-driven, caused by a lack of available staff.

“The only way to fix that is to drive unemployment up, then there would be enough unemployment to fill the job vacancies to eventually bring inflation down.”

He adds that the government can’t “borrow its way out of it” as financial markets don’t want to lend money to the government.

“The only real solution for authorities and the Bank of England in particular is to try to reduce demand to match the availability of services and goods that are there. And if they can do that then companies won’t be able to pass on the costs which will eventually slow inflation back down.”

Inflation to head towards the 2% target

He adds that he expects inflation to remain “elevated but not this high”, and “not in double-digits”.

“It should come back down to around 6% by the end of next year, hopefully down to around 3% or 4% by the following year and it might still take a bit of time to get back to the magic 2% inflation target.”

On the UK recession, Zangana says that many are conditioned to expect a deeper and longer recession, but he thinks it will last perhaps two or three years as compared to the global financial crisis, “banks are in good shape” but the “supply of labour is a challenge”. On a more positive note, he adds “things will start to improve in a year or two”.

Further, he says: “Looking ahead, we expect further rate rises in coming months, though the pace of hikes may ease from here. The Schroders forecast is for a peak of 4% in the bank rate, but the BoE may even undershoot this below-consensus estimate from us.”

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