Sunak May Struggle to Turn Key Inflation Victory Into Votes

Article content

(Bloomberg) — Of the five goals Rishi Sunak set for himself at the start of 2023, he achieved only one — cutting inflation in half by the end of last year. On Wednesday, he may be able to go further and declare victory over the cost of living crisis, with consumer price growth expected to fall to near the 2% target and reach its lowest level since July 2021.

The biggest challenge will be convincing voters that he deserves credit for another upbeat figure from the Office for National Statistics. Sunak is likely to use the inflation data — which is expected to fall to 2.1%, according to a Bloomberg survey of economists — to claim that Britain is “turning the corner,” with the economy emerging from recession faster than expected and living standards bouncing back. Sunrise.

Article content

Article content

Nineteen months ago, inflation reached a 41-year high of 11.1%, and the UK faced the worst price shock of all major advanced economies. The decline since then has been the fastest since the 1970s and raises the prospect of a rate cut from 5.25% as early as next month, easing costs for both mortgage borrowers and businesses.

With the ruling Conservative Party trailing Labor by around 20 points in the opinion polls, and the party still suffering defeat in the recent local elections, Sunak and Chancellor of the Exchequer Jeremy Hunt are counting on the “feel-good factor” as they prepare for a general election. Elections are expected to be held later this year.

“We are winning the battle against inflation,” Hunt said during an election-style event on Friday in Westminster. “By working with the Bank of England, we have succeeded in achieving the soft landing that many thought was impossible.”

However, a painful legacy remains. While Sunak and Hunt point to recent flows – slowing inflation, rising real wages – Labor focuses on the levels. Real wages are still lower than they were before the financial crisis, meaning pay packets are still buying less than they were in 2007.

Article content

Article content

Likewise, inflation may be poised to return to target but the price level is 23% higher than its starting point in 2019 when the current parliamentary session began. Food prices have risen by about 30% in the three years since the start of 2021. It took 13 years to achieve a similar increase before that, according to calculations by the London School of Economics.

GDP is also boosted by rising population. The output for each head paints a less flattering picture. The historic seven-quarter decline ended with a bounce at the beginning of this year. But GDP per capita remained 0.7% weaker compared to the previous year.

Regarding tax cuts, the story is the same. Hunt has dropped 4 percentage points from National Insurance, a payroll tax, since November. But the £20 billion ($25.4 billion) giveaway is dwarfed by frozen thresholds that mean the overall tax burden will continue to rise. Household conditions will be better this year, but worse afterward.

Hunt admitted on Friday that living standards had fallen “over the term of this Parliament”.

Voters have increasingly favored Labor to manage the economy after former Prime Minister Liz Truss's disastrous “mini-budget”, which upended the traditional dynamic in British politics. A YouGov poll conducted earlier this month showed that 27% of the public believe a Labor government will protect the economy, ahead of the 20% who trust the Conservatives. Labour's lead is even greater when it comes to managing public services

Article content

Another reason Sunak and Hunt may find it difficult to claim credit due to low inflation is that the task ultimately falls to the Bank of England. “If inflation reaches 2.1%, or below, this will provide the cover the MPC needs to start cutting interest rates in June,” said Thomas Pugh, economist at RSM UK.

Hunt and Sunak are right to claim that the economic backdrop is improving. Real wages are now rising at the fastest pace since September 2015, excluding distortions caused by furlough pay during the pandemic. Economic output rebounded sharply from a moderate technical recession in 2023 to reach a new high.

Energy bills fell by 12% last month to their lowest level in two years, with a further 7% reduction expected from July. Food inflation also fell sharply. This would relieve some of the pressure on low-income families who bore the brunt of the price shock. The Bank of England expects living standards, measured by real after-tax household income, to improve faster this year than the annual average over the decade before the pandemic.

Investors and economists see the odds of the Bank of England cutting interest rates in June at around 50%. But the MPC remains concerned about underlying price pressures, particularly in the services sector where inflation is expected to remain well above 5% in April. This is more than double the 2.1% expected for CPI inflation as a whole.

Article content

Many household bills are linked to previous inflation data, such as mobile phone contracts, and were raised in April. Furthermore, the 10% increase in the minimum wage in April may have fueled prices in bars, restaurants and shops. Deutsche Bank AG estimates that 15% of the services inflation basket will be reset due to the first factor.

After next week, there is another reading on inflation ahead of the bank's interest rate decision on June 20. Next month's wage data could still upset the rate cut because it's not clear how the roughly 10% minimum wage hike would impact salaries overall. .

“The really key thing is what happens to services inflation,” said James Smith, developed markets economist at ING. “April is a very volatile month just because there are so many different areas that are resetting their rates and wage growth has obviously been very high.”

After falling to about 1.9% in the second quarter, consumer price growth will rise again to 2.2% by the end of the year, according to a Bloomberg survey of economists. However, neither the Bank of England nor the Bloomberg poll expect inflation to rise to 3% again. With inflation holding near target, economists expect the Bank of England to cut interest rates to 4.5% by the end of 2024.

According to one government official, there is relief that the economy is returning to normal for the first time since before the pandemic. Covid and the inflation shock are in the rearview mirror. The question is whether recent improvements in the short term will register more with voters than declines in the long term.

-With assistance from Harumi Ishikura.

Article content