Tuesday, January 19, 2010

U.K. Inflation Rises Dramatically

Largely (but not entirely) because the VAT cut in December 2008 was taken out from the base comparison, U.K. price inflation jumped from 1.9% to 2.9% in December 2009. Underlying inflation was a lot higher previously during 2009 but was held back by the VAT cut. Once that the actual reversal of the cut starts to show up in coming months, it seems safe to say that inflation will jump significantly above 3%.

This should hardly surprise anyone. You can't debase a currency the way the Bank of England has done and not expect the domestic purchasing power of the currency to slump.

Both British bond yields and the pound's exchange rate rose in response to the news, as belief increases that the Bank of England will have to reverse its inflationist policies. Given that the recovery remains very weak, I however doubt that there will be any monetary policy tightening anytime soon. And before they start to raise interest rates, they will likely first start to trim its quantitative easing first.