Ahead of tomorrow's inflation report, the £ was weak in the expectation that interest rates may start to fall in 2008. However, despite predictions of lower interest rates, there are still concerns over inflationary Pressures which have been building in the UK

• Rising Oil prices have increased transport and packaging costs. Since Sept oil prices have risen 20% in dollar terms and 15% in Sterling terms.
• Increased food prices. This is partly due to poor harvests in Europe and rest of world. Global warming has been attributed as a major factor in the lower supply of food. (food prices have risen by 6%)
• Factory input prices rose by 3.8% to last year
• Airlines such as British Airways have announced they will be raising ticket prices to account for the rising costs of oil.
• Examples: Premier Foods - makers of Hovis bread have said prices will rise by above CPI inflation. Robert Wiseman, Britain's biggest dairy producers, have said price of milk and cheese will rise

• However, excluding food, drink, alcohol and petrol, input price inflation is just 2.3%
• CPI inflation is 1.8% (Oct 2007)
  
• Raw material prices is often erratic and doesn't necessarily lead to higher inflation.
• Weakness in the UK Housing Market could reduce consumer spending.
• These cost push inflationary factors are relatively small compared to the impact of aggregate demand on the economy

CPI inflation in the UK is forecast to rise from 1.8% to 2.1% next month.
However, next year, it is felt that inflationary pressures will moderate as oil prices run out of steam and domestic spending remains subdued by credit crunch and falling house prices.

Conclusion

Despite rising food and oil prices I feel that inflationary prospects are subdued. I feel the deflationary effects of falling house prices will be more significant than temporary cost push factors

Labels: economic forecasts

How accurate are economic forecasts?


The “joke” goes put 12 economists in a room and you’ll get 13 different answers. I think it was President Truman who, exasperated at the economic profession, yearned for a “one armed economist” What Truman meant is he wanted an economist who wouldn’t invariable go onto the other point of view. It is the same with economic forecasts ask economists predictions for future house price inflation in the UK and you could get answers ranging from -7% to +10%


Economic forecasting is important. For example it is the basis of the UK’s pre emptive monetary policy. Because there is a time lag in interest rates having a deflationary effect, it is important to be able to predict future inflation. If inflation is forecast to rise then the MPC knows it needs to increase interest rates now to avoid inflation in the future. However if forecasts turned out to be wrong then they could easily increase interest rates too much, causing a slowdown in the economy.

In recent years it has been relatively easy to forecast inflation because it is has been low and has fluctuated by little. However this is not always the case and economists have a bad track record of being able to predict unexpected economic shocks. To give a few examples

* 1929 wall St Crash and great Depression.
* 1990s deflation and low growth in Japan.
* 1997 -01 dot com boom and Bust.

On the other hand there have been economists predicting a major recession in America and with defaults in the sub prime mortgage sector it appears they may soon be vindicated. I have a good friend in America who has been predicting the imminent collapse of the US economy for the past 7 years. I guess at some stage there will be a recession and he will feel vindicated. However this kind of economic forecasting reminds you of the boy who cried wolf. If you predict a recession every year, by the time it comes most people no longer take you seriously.

See also:

• Limitations of UK Monetary Policy
  
• Forecasting Recessions
• Forecasts for UK Economy
  

Labels: economic forecasts, recession