Andrew Sentance: Key issues for UK monetary policy
Speech by Mr Andrew Sentance, Member of the Monetary Policy Committee of the Bank of
England, at pro.manchester members' lunch, Manchester, 26 April 2011.
* * *
I would like to thank Tomasz Wieladek and Adrian Chiu for research assistance and I am also grateful for helpful
comments from other colleagues. The views expressed are my own and do not necessarily reflect those of the
Bank of England or other members of the Monetary Policy Committee.
It is a great pleasure to be giving this speech here in Manchester, ahead of my last meeting
as a member of the Monetary Policy Committee, and I am very grateful to Pro-Manchester
for hosting this event. Manchester is one of Britain's great industrial cities and it also played a
key role in the development of economic thinking in the 19th Century, as the centre of the
"Manchester School" of political and economic activists who promoted the virtues of Free
Trade. The process of reducing barriers to trade and the development of an open trading
system has been a key factor underpinning the unprecedented period of economic growth
and rising prosperity enjoyed by many economies around the world since the middle of the
19th century. And over the past two decades, the global trading system has expanded to
include China and India with their vast populations, as well as many other developing and
emerging market economies. The rapid economic development of these economies as they
have integrated into the global economic system has created a major engine of growth for
the world economy.
However, this period of intense globalisation has not been without its downsides. Over my
time on the Monetary Policy Committee since October 2006, we have seen how a highly
integrated economic and financial system can also generate instabilities and transmit
economic shocks rapidly around the world. The debates and the decisions of the MPC while I
have been a member of the Committee have been dominated by the impact on the UK of the
turbulence created by a global financial crisis, a major world recession and the inflationary
impact of movements in globally traded energy and commodity prices.
There was very little inkling of the turmoil to come when I joined the Committee in October
2006. My time on the MPC started towards the end of its first decade, which was a period of
relatively stable economic conditions - steady growth and low inflation, with unemployment
around 5% of the labour force. For me, however, this honeymoon period did not last long.
Less than a year after I joined the Committee, over the summer of 2007, we saw the first
tremors of the financial crisis. And by the autumn of 2008 it was clear we were heading into a
major world recession. In response to these shock waves from the global economic and
financial system, the MPC cut the official Bank Rate to 0.5% - the lowest level in over 300
years of the history of the Bank of England - followed by direct injections of money through
the programme of Quantitative Easing.
These policies, accompanied by similar measures around the world and government
interventions to stabilise the financial system, succeeded in arresting the sharp downturn in
demand in late 2008 and early 2009 and a recovery has been underway here in the UK and
in other major economies since the second half of 2009. The bounceback in the global
economy since the middle of 2009 has been particularly impressive, supported by strong
growth in Asia and emerging markets, and stimulatory economic policies across the world
economy. World GDP growth last year was 5% according to the IMF, well above the
longterm average and much stronger than most forecasts were suggesting in early 2009 at the
trough of the recession, when the IMF itself was forecasting that world growth would be less
than 2% in 2010.
Here in the UK, we have also seen the economy begin to recover from recession over the
last eighteen months or so. As is the case with all economic recoveries, growth has not been
even from quarter to quarter or across sectors of the economy. For example, we saw a
strong period of growth in the middle of 2010, followed by softer indicators towards the end of
last year, with the bad weather making it particularly difficult to interpret the trend in
economic activity over the winter. And it is not surprising to see a softening in indicators of
consumer spending in the early months of this year in response to the recent rise in VAT and
other inflationary pressures which have squeezed real incomes.
Despite these pressures, however, recent business surveys and employment data suggest
that the UK's economic recovery has continued in the early months of this year after a
disappointing fourth quarter affected by snow. The indicators from manufacturing industry
continue to show strong growth on the back of buoyant export markets and activity is also
expanding in the services sector, albeit at a relatively modest pace. Meanwhile, the latest
Labour Force Survey estimates show that employment growth is picking up again, driven by
private sector job creation. Looking back over the past twelve months, nearly 400,000 jobs
have been created across the economy as a whole - which compares very favourably with
1
the rate of job creation in the decade before the recession.
Chart 1
UK employment in recessions and recoveries
Numbers employed rebased to 100 at cycle peak
102
101
100
99
98
97
96
95
1977 Q4 - 1983 Q4
1988 Q2 - 1994 Q4
94
2006 Q2 - 2011 Q1 *
93
92
-8 -6 -4 -2 0 2 4 6 8 10 12 14 16
Number of quarters from cyclical peak
*: Numbers employed for Q1 2011 proxied by that between Dec 2010 and Feb 2011.
Source: ONS Labour Force Survey
As Chart 1 shows, the performance of UK employment has been much stronger through the
recent economic cycle than we saw in the early 1980s and early 1990s - reflecting the
flexibility of the labour market, the resilience of businesses through the recession and the
impact of the recovery in demand over the past eighteen months. According to the latest
estimates, UK employment is about one per cent down on its peak level in early 2008,
compared to a reduction of 5-6% at the equivalent stage of the previous two economic
cycles. Unemployment appears to have peaked at just below 8% of the labour force whereas
it rose to over 10% following the early 1980s and early 1990s recessions. And I am pleased
to note that despite the recession, the number of people employed in the UK is now back
2
above the level recorded when I joined the MPC in October 2006.
For me, it is not the growth or employment performance of the UK which has been
disappointing over the period of economic recovery, but the persistence of relatively high
inflation. The primary responsibility of the Monetary Policy Committee within our current
policy framework is to maintain price stability - defined in terms of a 2% target for CPI
inflation. Yet the current level of inflation is 4% and the most likely scenario is that it will rise
further as we move through this year. And this is not just a one-off episode. Over the
55 months I have spent so far as a member of the Monetary Policy Committee, inflation has
been above target more than five times as often as it has been below - 46 months compared
to 9 months. Indeed, for the majority of my time on the Committee - in 28 of the past
55 months, CPI inflation has been 3% or more.
The official commentary of the MPC on this inflation over-run has been to emphasise one-off
factors pushing up inflation, such as oil and commodity prices and the recent rise in VAT.
Such factors do clearly contribute to the volatility of inflation, but they do not tell the whole
story. Oil and commodity prices have similar effects across a wide range of countries which
have a similar economic structure to the UK. But when we compare our recent inflation
performance to other European economies - whether they are part of the euro area, or have
independent monetary policies, as Sweden and Switzerland do, the UK's inflation experience
looks noticeably higher through the recession and into the recovery.
Chart 2
Inflation in selected European economies
Annual percentage change in consumer prices
4.5
UK Euro-Area
4.0
Sweden Switzerland
3.5
3.0
2.5
2.0
1.5
1.0
0.5
0.0
2007-08 average 2009-10 average Latest
Source: Thompson Datastream
As Chart 2 shows, our consumer price inflation has been around 1.5-2.5% above our peer
group of European economies through the recessionary period and this gap appears to be
persisting into the recovery. The recent VAT increase cannot account for this inflation gap,
which emerged before VAT was raised to 20% in the UK. Indeed, the UK is not alone in
raising indirect taxes to reduce its public sector deficit and VAT rates have been rising in
3
other European countries as well.
In addition to this contrast with other European countries, our experience of rising UK
inflation has been at odds with the standard "output gap" model used by many central banks
and economic forecasters to project inflation. The impact of depressed demand and spare
capacity created by the recession should mean that inflation falls in a recession and the early
phase of an economic recovery - and this was indeed the expectation of the MPC and other
forecasters in 2009 and early 2010. As Chart 3 shows, the forecasts published in the Bank of
England Inflation Report at that time were for CPI inflation to be around 1% or below in the
first quarter of this year, whereas in fact the out-turn is above 4%. Short-term inflation
forecasts have had to be radically altered as evidence of higher inflation has accumulated.
And yet the settings of UK monetary policy have not changed at all in the light of this
experience of much stronger inflation. The view that spare capacity and weak demand will
bear down on inflation in the future still underpins the majority view on the MPC, despite the
evidence that this is not what has happened over the recession and the early phases of the
recovery.
Chart 3
Changing inflation outlook for 2011
Bank of England mean forecasts for CPI inflation in Q1 2011
4.5
4.0
3.5
3.0
2.5
2.0
1.5
1.0
0.5
0.0
Feb-09 May-09 Aug-09 Nov-09 Feb-10 May-10 Aug-10 Nov-10 Feb-11 Outturn
Source: ONS and Bank of England
In my time on the Monetary Policy Committee I have earned myself a reputation as a "hawk"
or even an "uber-hawk" because of my stance on interest rates. This reputation has been
reinforced by my consistent minority votes since June last year to raise the UK Bank Rate.
But I acquired my hawkish mantle much earlier, in my first year on the MPC, when I voted in
a minority on a number of occasions to raise interest rates in response to the relatively strong
growth and rising inflation we were experiencing before the financial crisis. Those minority
votes, however, were the expression of modest differences in the timing of interest rate
changes. The MPC was tightening policy over that period - from the summer of 2006 to the
summer of 2007 - and I was in support of the broad strategy of gradual tightening that was
being pursued. And I continued to support the broad strategy of the majority of the
Committee as we relaxed policy - gradually at first, and then more dramatically from October
2008 onwards. So until I started to express my dissenting votes to raise rates last summer, I
felt that my views were relatively close to the majority on the Committee and differences of
view were mainly tactical - relating to the timing of Bank Rate changes.
I now feel somewhat differently about my position relative to the policy which the majority of
the MPC has supported over the past year. Even though my position on interest rates has
gathered support in recent months, it is nearly a year since I started to vote for a gradual rise
in the UK Bank Rate, in response to a recovering economy and rising inflation. I don't think
such a persistent difference of view with the majority on the Committee can be described as
tactical. It reflects significantly different views on the outlook for inflation and growth in the UK
and how we should respond as a monetary authority.
In the debates we have had within the MPC over the past year, there appear to be four key
areas where these differences of judgement arise, and which - so far at least - have led me
to a different conclusion on monetary policy from the majority on the Committee. These are
not new issues in that they have featured throughout my time on the MPC and in many
earlier debates on UK monetary policy. But the current economic situation has brought them
into sharper focus.
Issue 1: The powerful influence of the global economy
The first of these key issues I would highlight is the way in which the MPC takes into account
the powerful influence of global economic trends and their impact on the UK economy. The
way in which the global economy affects the economic outlook for the UK has been a major
theme of my speeches and interviews since my very earliest days on the MPC. The UK
economy is very open to international trade, with imports and exports combined accounting
for over 60% of GDP. We are also the second most important global economy after the US in
terms of flows of international direct investment. The UK is home to one of the most
important global financial centres in the world - London. And we have a very international
business community, reflecting the UK's position as a major trading and commercial centre
dating back to the late 17th century, when the Bank of England was founded, and the leading
role that Britain played as the pre-eminent industrial power in the 18th and 19th centuries.
When I joined the Committee in 2006, it struck me that most of the shocks and disturbances
that the MPC had had to deal with - even in the less turbulent times of its first decade - had
emanated from the global economy. The MPC came into being in 1997 just as the Asian
crisis was unfolding, and the response to that period of global turbulence was a key issue
dominating the first two years' of the Committee's life. Then followed the dotcom boom and
bust centred on the US economy and the global political turbulence following the
9/11 attacks, including the effects of war in Afghanistan and Iraq. Then, as the global
economy recovered in 2003/4, the emerging issue was the upward pressure on oil and
commodity prices and these global inflationary forces were a major preoccupation until the
middle of 2008 and have re-emerged as a serious concern as the world economy has
recovered from recession.
The global financial crisis from 2007 to 2009 was the most extreme of these international
economic shocks affecting the UK economy. It had an impact on the UK through a number of
different channels - global financial markets, the financial health of our banks and other
financial institutions, world trade and economic activity, and through business and consumer
confidence. Because the shock was much bigger than earlier shocks the MPC had faced, the
policy response was more dramatic, featuring deep cuts in interest rates and direct injections
of money into the economy through Quantitative Easing. In my view, this was entirely right
and appropriate given the risks of a deepening recession and deflationary pressures.
Chart 4
Strong emerging market growth to continue
Annual percentage growth rates of real GDP
10
Advanced Economies *
8
Emerging & Developing
Economies *
6
4
2
0
-2
-4
1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 2012
*: 2011 and 2012 growth rates are IMF forecasts.
Source: IMF World Economic Outlook
However, the trends in the global economy have now turned around. As Chart 4 shows,
global growth in both the advanced economies and emerging and developing market
economies - dominated by Asia - has recovered to rates very similar to our experience
before the recession. And the upward pressure on global energy and commodity prices we
saw before the recession have resumed. According to the forecasts produced by the IMF
and other major forecasting organisations, this relatively strong growth is set to continue
through 2011 and 2012 and the Bank of England's own Inflation Report forecasts also reflect
the pattern of continuing strong world growth.
Against this background, it seems to me likely that the upward pressure we are seeing from
global inflationary pressures is likely to continue for some time. Rises in energy and
commodity prices are clearly part of this pattern, and they may continue. An oil price of
4
$150 barrel and perhaps higher is quite conceivable. And we should not be surprised to see
these inflationary pressures transferred to more general increases in the prices of
manufactured goods imported into the UK. In China and other Asian economies which are
key producers of manufactured goods, domestic inflation and the pressure of demand from
global markets is putting upward pressure on wages and the cost of production. This
prolonged period of upward pressure on inflation from the global economy can be seen as
the mirror image of the "China effect" which helped to hold down inflation in the UK and other
western economies in the late 1990s and the first half of the 2000s.
These inflationary pressures from the global economy are closely linked to the strong growth
in Asia and other emerging markets, which is projected to continue for some time. This
means we cannot simply regard them as one-off shocks which will fade away. And just as
the MPC has adjusted to changes in global growth and inflation in the past, we need to be
prepared to do so now - in a gradual and measured way. The argument that these recent
developments in the global economy can be ignored by monetary policy because they
emanate overseas is not consistent with the previous responses of the MPC to changes in
the global growth and inflation climate. That includes the dramatic monetary policy relaxation
in late 2008 and 2009 in response to the global recession triggered by the financial crisis.
Issue 2: The role of sterling in UK monetary policy
One obvious way in which a tightening in UK monetary policy might affect our exposure to
imported inflationary pressures is through its impact on the value of the pound. And this is
the second key area where I see my view diverging from the majority of MPC members at
present. In my view, the external value of the pound is a key channel of UK monetary policy
and I would have expected the policy that I have been advocating - of gradually raising
interest rates - to exert some upward pressure on the value of sterling on the foreign
exchanges. That, in turn, would have provided some offset to the global inflationary
pressures we have been experiencing over the past year. Instead, as Chart 5 shows, sterling
has remained relatively weak, both against the full trade-weighted basket of the currencies of
our trading partners, and particularly against the euro - which is the most important currency
for UK trade, with the euro area accounting for around half of our total exports and close to
half of total UK imports.
Chart 5
Sterling depreciation since 2007
Rebased to 100 in January 2005
110
105
100
95
90
Euro-Sterling exchange rate 85
Sterling EER *
80
Average EER *, 97-07
75
70
2005 2006 2007 2008 2009 2010 2011
*: Effective exchange rate
Source: Thompson Datastream and Bank for International Settlements
This weakness of sterling is one of the key reasons why UK inflation has been much higher
than our peer group of European economies. As Chart 6 shows, the differential between
inflation in the euro area and the UK is closely associated with the relative strength and
weakness of the sterling/euro exchange rate. And there are good reasons for this. While the
UK has an independent monetary policy, it is a member of the Single European Market which
covers all European Union economies. The benchmark prices of traded goods in the
European market will be set in terms of euros, reflecting the fact that this is the currency in
which most European producers will have their costs and revenues denominated. So when
the pound falls against the euro, producers will tend to raise their prices in sterling terms to
maintain euro revenues, creating a positive UK-euro area inflation differential, as we have
seen recently. By the same token, the weakness of the euro against the pound in the first
half of the last decade created a negative UK-euro area differential with UK inflation running
below continental European countries.
Chart 6
Euro-Area/UK inflation differential and exchange rate
Euro/ sterling %
0.3 2.0
1.5
0.2
1.0
0.1
0.5
0.0
0
-0.5
-0.1
-1.0
Euro-area/UK CPI differential (RHS) *
-1.5
-0.2
Euro-Sterling exchange rate (LHS) **
-2.0
-0.3
-2.5
-0.4 -3.0
1997 1998 1999 2000 2001 2002 2004 2005 2006 2007 2008 2009 2011
*: Euro-area CPI minus UK CPI. A negative differential implies higher UK inflation.
**: Expressed as the deviation from its average over the same period.
Source: Thompson Datastream
Chart 6 suggests that this inflation differential can be quite persistent as it takes time for prices
to adjust. That is not surprising, as companies know that foreign exchange markets are volatile
and so the initial response of prices to an exchange rate change is likely to be relatively small.
But the longer it persists, the more likely it is that sterling prices will adjust to euro prices,
creating the potential for quite long term impacts on UK inflation relative to the euro area. That
is what we appear to be seeing at the moment, with the historic relationship shown in Chart 6
suggesting that UK inflation could run 1 to 2 percentage points above euro area inflation for a
considerable while unless there is some noticeable appreciation in the value of the pound.
The counterargument to this view is that the recent substantial depreciation of the pound
against the euro and other currencies is needed to support a rebalancing of the UK economy
and sustain the growth of UK manufacturing and other internationally competitive sectors of
the economy. But the extent of the depreciation of sterling since 2007 has been much
greater than we have seen in previous rebalancing episodes, such as the mid-1990s - which
5
raises the question whether sterling has fallen much further than needed. And it is not clear
that the export-based manufacturing activities which could benefit from a large depreciation
have the capability to respond quickly by scaling up output - particularly when their demand
is already being boosted by a recovery in global demand.
Chart 7
Manufacturing output in UK, Euro-Area and Sweden
Rebased to 100 in 2007
105
100
95
90
85
UK
Euro-Area
80
Sweden
75
70
2007 2008 2009 2010
Source: Eurostat and Thompson Datastream
Chart 8
Goods exports from UK, Euro-Area and Sweden
Rebased to 100 in 2007
115
110
105
100
95
90
UK
85
Euro-Area
80
Sweden
75
70
2007 2008 2009 2010
Source: Eurostat and Thompson Datastream
The performance of UK manufacturing output and exports relative to other regions and
countries which have maintained stronger currencies - such as the euro area and Sweden -
supports this view. Chart 7 shows that there is very little difference in the current level of
output relative to its pre-recession level in the UK, Sweden and the euro area - though the
depreciation in the pound may have helped shield manufacturers from a bigger decline in
output during the recession. Chart 8 shows broadly the same picture for the exports of
goods, which are dominated by trade in manufactured products.
This picture is perhaps not that surprising when we think about the characteristics of the
modern UK manufacturing base. Many UK manufacturers are niche producers linked into
highly integrated global supply chains. Their products are not highly price sensitive, as they
reflect the innovative capabilities, technical know-how and high level of skills which are
needed to operate a successful manufacturing business in the UK or any other advanced
economy where labour costs are high by global standards. In the short-term therefore there
is limited scope for an expansion of UK manufacturing output without major investment in
skills and capacity - which is consistent with the picture shown by business surveys of
capacity utilisation in manufacturing such as the CBI's Industrial Trends Survey released
6
today.
This suggests that an expansion of the UK manufacturing base - along with other tradable
activities - can only be achieved over a period of time with investment in skills and capacity.
A relatively competitive exchange rate can help support that process, but the value of the
pound also has other important macroeconomic effects which need to be taken into account
by the MPC. Sterling's depreciation since 2007 has added significantly to imported
inflationary pressures in the UK economy and this is particularly unhelpful at present when
we are seeing a renewed surge of energy and commodity price inflation. And the resulting
squeeze on disposable incomes is clearly a factor holding back the growth of consumer
spending in the short-term, offsetting the boost to growth we might be seeing from improved
trade performance.
Throughout the postwar history of the UK economy, policy-makers have had to strike a
balance between the impact of the external value of the currency on the competitiveness of
exports and its potential effect on inflation through import costs and the pricing climate. In my
view, we have allowed the pound to depreciate more than is necessary or desirable to
support the growth of manufacturing and exports. For example, allowing sterling to rise by
about 10% from its current level against the euro (£1 = €1.13) would still leave it at a
relatively competitive level by historical standards (£1 = €1.25). The very significant fall in
sterling from mid-2007 to early 2009 probably helped to support manufacturing industry and
exports and hence stabilise the economy in the depths of the recession. But now the world
economy is recovering, exports and manufacturing activity are being strongly boosted by the
growth of world trade. Meanwhile, worries about deflation have been replaced by the concern
that the UK economy now faces a sustained period of relatively high inflation which is
endangering our track record of price stability. In these circumstances, our approach to the
value of sterling needs to strike a different balance from the view we took in the depths of
recession.
Issue 3: The "output gap" and inflation
Alongside the influence of the international economy and our approach to the value of the
pound, the third issue where I have found myself at odds with the majority view on the
Monetary Policy Committee is on the influence of the "output gap" and spare capacity on the
rate of inflation here in the UK. As I mentioned earlier on in this speech, the view that spare
capacity and the weakness of demand would push down on prices and costs underpinned
forecasts that inflation would fall sharply in the wake of the recession. That has not happened
in a world where other powerful influences on inflation - from the international economy, the
value of the pound and the general pricing climate have operated in a much more inflationary
direction. Yet the narrative adopted to support the policy position of the MPC, in the
Inflation
Committee's minutes and in recent editions of the Report, continues to put
considerable weight on the downward influence of spare capacity and the "output gap".
Estimates of the "output gap" generally rely on an assessment of the level of economic
activity, normally measured by GDP, in relation to a longer run trend which aims to capture
the capacity of the economy. That immediately highlights two major problems of using this
concept in real time: GDP figures are frequently revised; and our view of the economy's
capacity and its trend rate of growth has to be estimated as it cannot be measured directly.
Both of these problems are particularly acute in the aftermath of a recession, when early
estimates of GDP may be less reliable than normal and when we are more likely to see
structural changes in the economy which may change our view of the level of capacity in the
economy and its growth rate.
On the question of GDP data revisions, I well remember the experience of the early 1990s
recovery, when I was working as Economics Director at the CBI. Initial estimates of GDP
growth were much weaker than the picture that we now have of that recovery. And we have
already started to see something similar happening over this recovery too. The first GDP
growth estimate which signalled the economy was coming out of recession - for the final
quarter of 2009 - has already been revised up from 0.1% to 0.5%. For this reason, I would
caution against putting too much weight on the initial estimate of GDP growth for the first
quarter of this year which we will receive tomorrow. Such early estimates of GDP need to be
interpreted alongside the other evidence we already have about the performance of the
economy - including business surveys and employment data.
Chart 9
OECD measure of UK output gap
Output gap as percentage of potential output
4
Real-time estimate
3
Latest estimate
2
1
0
-1
-2
-3
-4
-5
The combined impact of data revisions and reassessments of the trend in underlying
capacity can be seen in the way estimates of the "output gap" change over time. Chart 9
shows how the OECD's estimate of the UK output gap has changed over the 1990s and in
the 2000s prior to the recession. In general, the revisions have indicated that there was much
less spare capacity in the economy than originally thought. The persistent "output gap" of
spare capacity which was believed to exist in the mid-1990s has been revised away. And the
OECD's current estimate is that the UK economy was operating much further above capacity
before the recession than thought at the time.
These difficulties in measuring or estimating the margin of spare capacity can be remedied to
some extent by looking at direct measures of spare capacity in firms from business surveys
and indicators of labour market slack from employment data. However, as I have argued in a
number of recent speeches, these business survey indicators do not support the view that
firms currently have a significant margin of spare capacity - particularly in manufacturing
industry.7 And there also appears to be less slack in the labour market than we saw in the
aftermath of the recessions of the early 1980s and early 1990s, as I noted earlier.
Changes in demand conditions clearly do affect inflationary pressures. In a climate of
stronger demand, firms will expect price increases to stick more readily than in weak demand
conditions when discounting will be much more prevalent. But this pressure of demand is not
well captured by simple "output gap" type measures which are too crude and prone to
measurement error. Indicators of the growth of demand or changes in employment may be
more useful, as they remove the need to make judgements about the sustainable level of
economic activity.8 But it is probably unrealistic to try and capture the pressure of demand on
inflation in any one single measure, particularly in an open economy like the UK where both
domestic and international factors have a bearing on the rate of increase in costs and prices.
Chart 10
Survey measure of businesses' price expectations
Balance of respondents expecting higher prices, BCC Survey
50
Manufacturing
40
Services
30
20
10
0
-10
-20
-30
1997 1999 2001 2003 2005 2007 2009 2011
Source: British Chamber of Commerce
What we can observe more clearly is how the pricing intentions of businesses and the rate of
price increases they are able to secure are responding to changes in the demand climate.
And this evidence does not seem to support the view that the pressure of demand is bearing
down heavily on inflation at present in the UK, even when allowance is made for cost
increases. Chart 10 shows a survey-based measure of pricing intentions from the surveys
conducted by Chambers of Commerce around the UK. This shows that expected price
increases are currently running at relatively high levels in both manufacturing and services,
and that there has been a significant turnaround in the pricing climate since the trough of the
recession in 2009.
Another indicator which suggests that domestic demand pressures are exerting limited
downward pressure on inflation at present is the rate of inflation in the services sector. In
contrast to goods - which tend to be traded internationally - the services sector is more
heavily oriented towards the domestic market. So if the margin of domestic spare capacity or
weak demand in the UK economy is pushing down on inflation, we should see this reflecte