UK: No currency effect on inflation yet – HSBC

Liz Martins, UK Economist at HSBC, suggests that following the UK's vote to leave the EU, they revised up their forecasts for UK inflation sharply which reflected their FX strategists' view that the currency would fall (to 1.20 against the dollar and 0.92 against the euro by end-year), which looked set to add to input price pressures that were already rising due to global oil prices.

Key Quotes

“Three months on, inflation is on the rise, but not because of higher import prices. In fact, UK petrol prices fell in the immediate aftermath of the vote, and, for now, it is the least import-intensive goods and services which are driving price growth higher.

What if sterling doesn't fall further?

Of course, exchange rate driven inflation takes time to come through, and we still expect a marked uplift over the coming year. However, with the UK data having come in stronger than expected on the back of the Brexit vote, sterling is holding up remarkably well for now. Our central case remains for further falls, on the back of structural pressures such as the current account. But if the currency stayed at around 1.30/USD, this could take almost a percentage point off our end-2017 forecasts.

A VAT cut could also change things…

There are other risks to our forecasts, including the possibility that Chancellor Philip Hammond could opt to cut VAT in the Autumn Statement on 23 November. Again, this is not our central case - and arguably it is becoming less likely in light of the strong data coming out in the UK. But if he did make the move, previous experience suggests this could take about a percentage point off our inflation forecasts (although of course, there would be an equivalent spike if the cut was reversed a year later).

…as could a move in global oil prices

The final risk we look at in this report is global oil prices. Looking only at the impact on petrol prices at the pump - and not allowing for any second round effect – we estimate that a USD10/bbl rise would add 0.1pts to CPI and RPI inflation. Likewise a USD10/bbl fall would reduce inflation by the same magnitude.”