UK inflation surged to 2.1% in May, overshooting the Bank of England’s target, as prices for clothing, motor fuel and recreational goods continued to climb amid the further relaxing of lockdown restrictions.
May’s figure beat expectations of a 1.8% rise year-on-year and was higher than the 1.5% spike in April. On a monthly basis, the consumer PI rose by 0.6% with the biggest contributor to inflation coming from transport, accounting for 0.72 percentage points, according to the Office for National Statistics.
Rising prices for clothing, motor fuel and meals and drinks consumed out as lockdown eased were the largest upward contributions to the change in rate between April and May.
This was offset slightly by the negative impact from cheaper prices for food and non-alcoholic beverages.
No urgency for BoE to hike rates anytime soon
Responding to the May read-out commentators reckon it is likely inflation will further overshoot the Bank of England’s 2% target. But they are split on whether the spike in prices is transitory, driven by the effects of the reopening trade, or a long-term phenomenon.
Willem Sels, chief investment officer private banking and wealth management at HSBC, thinks UK CPI will likely come down again to 2% in 2022.
“There is significant spare capacity in labour markets, with more than two million workers remaining on furlough, meaning it is unlikely that a wage spiral develops and hence CPI pressures should be temporary,” Sels said. “This means there is no urgency for the Bank of England to hike interest rates any time soon.”
Charles Hepworth, investment director at GAM Investments, said: “The current trajectory of inflation should be no real surprise as the world economy begins the slow steps out of virus related lockdowns and year-on-year comparisons will inevitably look at the headline level as somewhat surprising with the base effects of last year now firmly priced in.”
Hepworth said: “Our expectation is that these inflation overshoots will be a temporary phenomenon we will see for a few more quarters yet before falling back nearer to the central bank target level.”
Inflation risks remain on the upside due to scale of stimulus
Others are looking to the Bank of England’s announcement next Thursday to indicate if there will be any policy change.
Sam Pham, investment strategist at Tilney Smith & Williamson, said: “We would reiterate that inflation risks remain to the upside due to the scale of stimulus and the UK economy reopening. In addition, the Bank of England Governor Andrew Bailey has made it clear they will not tolerate consistently above-target inflation of 2%. As a result, our preference is to hold inflation-linked government bonds rather than nominal government bonds in multi asset portfolios.”
Similarly, Ambrose Crofton, global market strategist at JP Morgan Asset Management, said: “The firming of price pressures in the UK is part of a global phenomenon as the world emerges from the Covid-19 pandemic. As a result, central banks are gradually tip toeing towards the exit of their emergency monetary support programmes. All eyes now turn to the Bank of England meeting next Thursday for an indication on how and when it plans to start on the path to more normal policy.”
Wage inflation can become self-fulfilling prophecy
The producer price index also registered higher last month, showing positive growth of 4.6% in the year to May 2021, up from 4% in April with transport equipment, metals and non-metallic minerals providing the largest upward contributions.
Earnings data released by the ONS yesterday estimated that median monthly pay also pushed higher, with an increase of 9.1% from May 2020.
Ben Lord, manager of the M&G UK Inflation Linked Corporate Bond fund said: “We will continue to watch core inflation and particularly wages for giving indications around whether inflation will prove to be more lasting than many believe. Wage cycles are long lasting, and can become self-fulfilling via inflation expectations more broadly, and this will be key.”
Lord added that nominal yield markets appear to be pricing in a benign inflation outlook, whilst inflation markets appear to be pricing in a sustained and meaningful overshoot to inflation targets.
