Consumers short-changed on currency exchange boost

One of the key features of the global developed economy over the past few years has been the lack of any significant inflationary pressures.

In fact, deflation has been the issue most worrying central bankers and they have engineered historically low-interest rates and massive programmes of quantitative easing in an effort to generate economic growth and a healthy level of inflation.

Economic growth is coming back, but inflation is still pretty much marked by its absence.

The ECB has an official inflation target of 2% or slightly lower. In recent months, inflation in the eurozone crept up to 2%, but this was almost exclusively due to higher oil prices and the base effect they had on year-on-year inflation. This base effect is now dissipating and oil prices have fallen back.

Consequently, the headline rate of inflation eased back to 1.3% in June. US headline inflation is running at 1.6%, and the important core rate of inflation, which excludes volatile food and energy prices, stands at just 1.7%. US price pressures have softened in recent months, and this may force the Federal Reserve to take the finger off the interest rate trigger for the moment at least.

Inflation in the UK has edged up to 2.9%, but this is due to the impact of currency weakness on import prices. This Brexit-induced currency effect is starting to squeeze disposable incomes and is a concern for UK growth.

Notwithstanding the blip in the UK, price pressures elsewhere remain very muted and this does not look likely to change for the foreseeable future.

The reasons for the lack of inflationary pressures in the developed world are both cyclical and structural in nature.

Following the global economic crash after 2008, many economies have been characterised by high unemployment and lots of spare economic capacity in general. This spare capacity has enabled quite a degree of economic recovery to materialise without any real impact on price pressures.

Some of this economic slack is being used up as the global economy recovers, but to date inflation has failed to materialise in any significant way.

It is clear that there are also important structural forces at play. The process of globalisation has increased competition and emerging economies such as China are literally bombarding the developed world with cheap imports. An examination of clothing and footwear prices is very instructive in this regard.

It is also the case that despite falling unemployment and relatively impressive growth in employment, wage pressures almost everywhere remain quite muted.

Clearly, the impact that technology is having on productivity and employment is still bearing down on wage and price pressures. This is an issue for workers in many countries and is certainly leading to political dissatisfaction.

Ireland is not immune from these global forces. In the year to June, consumer prices declined by 0.4% and the EU harmonised measure of inflation showed an annual decline of 0.6%.

Consumer prices in the first six months of the year were just 0.4% higher than the first half of 2016.

Any inflationary pressures evident in Ireland are emanating from the services sector, rather than the goods sector. In the year to June, the price of services increased by 1.5%, while the price of goods declined by 2.9%.

On the services side, private rents increased by 7.9%, insurance costs increased by 3.1%, and the cost of health increased by 1.4%.

On the goods side, clothing and footwear prices declined by 5.3% and the price of food and non-alcoholic beverages declined by 2.7%.

The trend in food and non-alcoholic beverage prices is interesting.

Since the beginning of 2013, prices have declined by 8.2%. This obviously reflects the intense domestic and external competitive forces at play in this sector. Consumers want cheaper food and the retail sector is responding.

However, the impact of currency movements is more complicated.

We import a lot of food and beverages from Britain. In the first five months of the year; imports of food, live animals, beverages and tobacco from Britain totalled €1.22bn.

In 2016, the sterling/euro exchange rate averaged 81.92p, and so far in 2017, has averaged 86.22p.

This significant currency movement has not yet been fully passed on to consumers, and the chances are that it won’t.

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