“So somehow in the UK, someone needs to accept that they’re worse off and stop trying to maintain their real spending power by bidding up prices, whether higher wages or passing the energy costs through on to customers.” – Huw Pill, chief economist at the Bank of England
Welcome to the Supplement as April draws to a close. One third of the way through 2023, and the slings and arrows do feel like they keep on coming. Time passes more and more quickly it seems, as we lurch from (media-defined) crisis to (media-defined) crisis, few of which are anything like a crisis.
For this week’s quote I’ve chosen something contemporary that was said this week and caused “outrage” (I find it incredible that people haven’t got anything better to do than be outraged on Twitter – I look forward to my semi-retirement where I have that luxury of time on my hands – so that I can be outraged, mostly, at the people being (or feigning) outrage).
Huw Pill is the Chief Economist at the Bank of England and has been in post for a couple of years, nearly. He is quite bloodless – although I’ve spoken in the past of how economics is bloodless, and perhaps that’s what makes him quite a good economist – and this quote was characterised as him saying that people need to accept that they are poorer.
It isn’t exactly what he said, of course, because the press wouldn’t want to directly quote someone – but that can indeed be inferred in what he said. The inconvenient truth here is, of course, that he is right – but as so often, we are out of context and also only on one side of the argument.
A better way to have this conversation is to start by framing it thus: The UK has a particularly acute inflation problem. This, whilst somehow unexpected by a wide majority, is not atypical of the UK. We import a lot, we’ve had a short-term-thinking “cost-saving” government that has implemented a lot of policies that have long-term significant costs rather than accepting shorter-term investment costs, mostly on an ideological basis or in the same way a PLC CEO manages the share price for the next quarter or half-year whilst not concerning themselves enough with the long-term sustainability of the country. This isn’t a political statement – there’s limited evidence that Labour would do better – Blair arguably DID, but also arguably was a Tory in red clothes – but simply an economic truth as I see it.
That has led to us having a major league energy dependency problem, alongside an obsession with leading the world in every crusade going. I’m not trying to frame that as a negative – we SHOULD judge society in the level of freedom that we have, and how the less fortunate are treated – although I believe we should also stop the endless crusade to find more excuses for why people don’t look after themselves, and engender individual responsibility deeply within our culture. The problem is when the premises are inherently wrong. I spoke at length about Just Stop Oil last week; the ESG (Environmental, Social, Governance) brigade are similarly mistargeted and the acronym has become yet one more to put on the management consultancy bonfire as a trope, rather than achieving what it is set out to do. Energy independence is incredibly important, strategically, and in my own way I’m also trying to actively make that happen across my portfolio and working with others to do the same for many property owners. Keep watching this space for more on that one!
So – we found ourselves in a situation where inflation started, globally, because supply of various commodities works on a fairly long cycle – sometimes a year, or even longer. Mining, lumber, certain crops – all cut during the pandemic, and in reality we actually needed more – or at least, the same, fairly quickly. Resources prices spiked as a hot war kicked off, and by then inflation was already in the system.
What Huw is talking about is the endemic nature of a wage-price spiral. This is relatively misunderstood. What we did learn in the 1970s is that if wages smash forwards with limited controls or particularly strong trade unions, prices have to follow otherwise businesses will go bust. We are seeing a few casualties – not massive, but alarming – close to each other. Prezzo (810), Ocado (automation-led but also blatantly driven by large rises in staff remuneration – 2300, although some will be re-sited), Taylor Wimpey (450), M&Co (1900). There’s wage costs, plus utility costs, that are blamed, of course. In context, 169,000 more people were employed in Dec 22-Feb 23 (the most recent period there are proper figures for) than in the 3 months prior to that – so things have still been moving in the right direction. In many ways, watching the employment rate is better than watching the unemployment rate; the UK is behind the rest of the world in recovering economic participants from long-term sickness attributed to Covid, but it is starting to turn around, and so as long as employment is increasing, or at least employment minus unemployment is a net positive, the economy is heading in a sustainable direction from a jobs basis.
Pret and Costa have made “three wage rises in a year” – a good soundbite, but in reality two of those were driven by minimum wage increases – the December rise was the exceptional one. With minimum up 17.38% compounded from 31 March 2022 to 1 April 2023 (yes, that’s the right number) Pret’s 19% and Costa’s 14% is really an attempt to gain positive PR rather than a particular problem. They employ a lot of staff who are on close to, or at, the minimum wage – it’s that simple. Lies, damned lies and statistics.
This is not like Sainsbury’s in the 1970s who in one year increased staff wages by over 30% when inflation was rampant. The point is that wage rises led the way on further inflation once it was in the system – once the nuclear “core” of inflation had heated up so much it could not be cooled.
This time round, wages are following and chasing prices, not the obverse. However, even if wage rises ARE below inflation, and so almost everyone on a wage without a significant promotion IS poorer, as Huw implies, there will still be an impact on pricing. The inflation print for April will tell a lot when it comes out late next month – with 10%+ more money in the pocket and the gas going off for the summer, what will happen to the extra money in the pockets of the low-paid and the benefits claimants? My guess is that clever companies will have put prices up once again to lift as much of this out of the pockets of consumers as possible, and also (in their defence) had to raise prices to deal with these higher wage costs.
The point is, even if wage rises are NOT keeping pace with inflation, at 7-10% they are still providing consumption – the one major driver of the UK’s GDP and the measure of inflation in its purest form – and keeping the fire burning. It doesn’t mean these wage rises are not inflationary – it just means the spiral is not endlessly moving upwards. 7-10% is still well above the good old 2% target!
This leads back to the context in which the entirety of the offending podcast in question should be listened to. The big picture:
- Inflation hurts everyone (apart from the Government and those with large nominal debt positions, as long as the price of the asset that the debt secured against is rising/the debt cost is fixed – hence why overall a bit of inflation is great news for property investors, if it puts more money in the pockets of renters and homebuyers)
- Inflation needs to be controlled because of its potential to do exactly what it is doing – make people poorer and damage the fabric of society, whilst we stand in judgement as to whether nurses, doctors, train drivers or whoever deserves to get paid more, or less, or what shots they should call. Social unrest is more likely and the number of pressure groups and protests tends to go up, as is already happening also.
- A cycle of inflation only comes to an end when prices cannot and then do not move upwards any more at a significant rate. This might be due to a number of things; tax being so high that money-in-pocket goes down and people are poorer again; affordability of certain essentials including rent, shelter and fuel moves out of reach of enough people; interest rates being so high that mortgagees and borrowers are left a lot poorer, and renters are in the same boat because their landlords are facing increased cost pressures. The economy contracts and prices have to come down to a market clearance level – there’s a recession.
- The Bank of England can only control the interest rate (yes, they can also print money/undertake QE, but the argument for QE when you have a meaningful/non-zero base rate is weak – which is why they are slowly unwinding the QE). There’s a failure to understand the difference in the implementation and deployment of QE since 2009 and it is actually very simple indeed in my eyes. When used to suppress interest rates and make lending happen, large businesses benefited without creating consumption inflation. Cheap money meant great profits and solid returns on equity. When that money was given to the people (furlough; bounceback loans to small companies; grants to small companies) it instead made its way out into the consumption element, the big driver of GDP – firstly it got saved, as there was overall true uncertainty and some element of panic over the pandemic – then, as things unwound, those emergency savings weren’t needed any more and they were available to be spent. Even cheaper debt led to even more debt-fuelled consumption, of course.
- Inflation is now 2 years above target – May 2021 was the first print above 2%, and it has not been below that since. It is also one year of consecutive months of prints above 9%, and only been in single digits once in the last 9 months.
- Typical inflation cycles take around 4 years to truly get under control, but this one could yet take longer; the large addition to the UK debt pile is the biggest beneficiary of this inflation, and inflating the debt away is helpful in the absence of having any meaningful strategy to truly grow the UK economy – our current future is limp economic growth around the 1% per year level, without any particular specific issues or black swans.
- What’s really going on at the moment is a classic UK approach to a macro problem. We don’t “eat the frog” in this country – we kick the can down the road, as Jeremy Hunt has done. We protect people, and wrap them up, as much as we can. We have furlough – I was a great supporter. I don’t like the “American Way” in these situations – staff and businesses should have a symbiosis and I believe if you employ people you should look after them. If they don’t look after you – move them on, preferably quickly – and look at your own processes to make sure you hire better next time. This “death by a thousand cuts” approach, which some refer to as a soft landing (attempt), means that the pain just drags on, just as it did after the financial crisis.
- You could exemplify this by the difference in the way that the rate hikes have been implemented in the UK versus the US. The US started later than us (which was too slow) and hiked much more aggressively. Their GDP is now creaking and is languishing around 1%, with an election coming up which is not ideal for the incumbent. The likelihood – in my opinion – is that they will also finish hiking before us, and we will use a longer cycle. That’s unlikely to be wrong – regardless of outcome – because there is an incredible amount of uncertainty as to what happens when you come off a ZIRP (Zero-interest rates policy) situation back into a normal or even high, based on the 10 years before the 2008 crash, interest rate environment. It hasn’t been done before – certainly not at this pace, and that’s why we’ve had wobbles in UK gilts, and US regional banks.
- There’s one elephant in the room here. I’ve attributed inflation to the money getting into the hands of the people (for a change). I hope you all enjoyed it at the time and made the most of it, because that bit is what’s making any non-property parts of our life poorer. For those who just worked harder for the same money during the pandemic – had no furlough – and already are undervalued by society – I feel gutted for you and also thank you for what you do, because you’ve had the worst of both worlds. For those who took self-employed support and carried on working cash-in-hand, many anecdotal stories of which I’ve heard – screw you!
- Some economists are pointing to the (now) contraction of the money supply as an indicator that deflation is coming. This argument is too simplistic for me – because it depends where the money went TO, and where it is now coming FROM – just as the difference in the 2009 QE versus the 2020-21 QE made a gigantic difference to inflation. Credit crunches (or, rather than sensationalising, credit shrinkages) affect property prices and employment, because people cannot afford to buy as easily, and companies struggle more to start up and also to borrow money to fund expansion and new ventures.
- The other problem with the money supply contraction argument is where the money supply is today, compared to where it was pre-pandemic. A step change higher. Money supply is measured in a variety of ways, with lots of wonderful numbers that sound like motorways – M1, M2, M3 etc – but suffice to say, the term is used to denote how much money is in circulation, basically (at a simple level, it is what it says on the tin).
- The strict monetarists (think, those who advised Thatcher) are now predicting deflation and doom. Money supply growth has been extremely volatile and the genie isn’t going back in the bottle. Once again this conversation needs to be had in context with the “Truss wobble” which might have had another good, completely unexpected and no-skill-whatsoever impact of popping the money supply bubble back to something normal. The recent print is 1% growth year-on-year which doesn’t support 10% inflation; but velocity can still pick up, something that fell very flat during the pandemic – the speed at which money moves through the economy.
- Making any changes on the back of the monetarist predictions would be foolish at this stage. A contracting money supply would not be ideal by any stretch – but a static one (bear in mind, if the money supply grows 1% in nominal terms but inflation is 10%, then the purchasing power of that money is down 9% or so) might well help to balance out the epic growth of the money supply in 2020. We could do with a stretch that’s a few percentage points lower than inflation, in order to drag things back down; in a similar way to the fact that we need wages a few percentage points below inflation.
- This is one of the problems I see recurring more and more these days. Forecasters are completely obsessed with trends, and the market overreacts to them. Context is missing, and if job vacancies (for example) are still 27%+ higher than at any all-time point before the pandemic came, you can’t just brush that aside – where we start from is still relevant!
- My new idea of the average inflation for this year is up from about 7-7.5% to 8-8.5%. Despite me being consistently at the top of the range, or even outside the range, on inflation predictions, as it stands today I might still have been too bullish about how quickly the “base effects” would kick in.
I can, quite easily, keep going on about inflation all day, and all night. The above is hopefully an explanation in somewhat understandable terms of where we are, how we got here, and where we are going. I’m still seeing a couple of years of above target as realistic, but with some level of control. A “massive” drop, to me, based on higher prices, is looking less and less likely – I’d characterise “massive” here as more than 2% in one month, or more than 3% in two months – this feels like an engineered bit of propaganda, frankly, to try and keep wage expectations and the like in check.
Remember though – wage inflation, largely, good if kept under control, as far as property investment goes. It means house prices and rents are, all else being equal, on an upward trajectory, and keeps the sector moving forward – incentivizes housebuilders and developers, and a healthy level at a few per cent per year, or a couple of percent, is where we should all want it to be.
I wanted to finish on a positive note this week and share something that might be of use to readers. My eagle-eyed business partner spotted a headline in a town where we are doing a development – the concept was around a “banking hub”. The PR side of the operation “awards” these hubs to smaller towns (at the moment – more later) and less accessible places.
The hub has the post office providing day to day over the counter services, and then has a meeting room which one bank takes over each day to provide face-to-face advice and meeting space. The 5 biggest banking providers in that area get the room one day a week each; so Lloyds might be Monday, HSBC Tuesday, etc. etc.
This strikes me as the absolute future of high street banking. 5% of the population still transact ONLY in cash, for a variety of reasons. Banking this way remains accessible; yes, it loses convenience but this means no travelling 10 miles, even if you live in a suburban area, to get to a branch if need be. I see no reason why these won’t be in suburban and city high streets, in part, because they will be a fraction of the cost to the banks to run, and keep serving their customers well – whilst keeping a fair amount of choice for those who do rely on these hub-style buildings.
Their standard lease is a 10-year no-break 3 and 6 year upward only rent review. Attractive in this day and age for high street. They have 2 pilot branches and 52 in flight, leases signed or in negotiation. Hopefully that’s a helpful share for some readers!
I hope your regular dose of inflation goes down well, as this situation continues to play out; the reasons for some of the steam to come out of the equation are there, but the acceptance of those who are already feeling poorer and will get relatively poorer yet will play a significant part. Keep calm and carry on……..
