Deflated?

After decades of inflation, our charts have done an About Face. We've officially gone into a period of Deflation for the first time in 50yrs, with prices falling 0.1%. See what the FT had to say here

So what does this mean? Deflation means prices in general are taking a tumble. Every pound in our pocket will go that little bit further.
So far it's music to our ears right? Lower prices, more money, what's not to love?
Well..

Long term deflation isn't so rosy. If this period of economic nosediving continues we will be looking at lower wages and possible peaks in unemployment, whilst our personal debts will remain as high as ever - which could summon bad news for households.

Let's backtrack a moment.

Last week the CPI (Consumer Prices Index) registered a negative reading. This measure looks at all our consumer goods, food, transport, even medical care and puts them into a metaphysical basket. This basket is then valued, then the value is measured. In real terms, this negative figure mean that prices have steadily fallen since April 2015; not long of course, but it tells of a trend and may signify a period that we are about to enter.

This measured value is intended to inform us as to how our vital products and services have altered in cost over time. Usually the value is positive and our goods and services have proven to become steadily more expensive over the years. Which is why this current negative figure is so intriguing; we haven't had a downturn like this since WW2.

But we all buy different things, so this basket may prove problematic. For example, food costs have decreased 3.2% since April last year, yet liquid fuel prices have tumbled a massive 26%. If we look to education, that has risen by 10% - so depending on what your set up is, it's really a game of swings and roundabouts. Historically inflation has always favoured the top 40% of households, meaning - you guessed it - the poorest in society are inevitably hit hardest.

What does this mean for my bank balance

Inflation usually works as follows; CPI increases and inflation goes up 2%, and at the same time your pay increases 2%. Not so great news as that pay increase means little; the items you buy and the money in your pocket all remains the same. When (as we've seen in the public sector) pay is not increased with inflation, workers are hit hardest but that is a whole other blogpost. With deflation the money in your pocket is worth more, as prices fall. So far, so good-bank-balance.

And this is pretty sunny, for the time being. But what is worrying is the prospect of continued, long term deflation. Once you pop, you can't stop. This deflation measure comes after several years of falling inflation which led to tumbling oil prices - sending shivers down the spine of any dedicated environmentalist *puts hand up, eyes watering*

So it's not so good?

What we need to consider here is how the economy will respond to continued deflation. First is the consumer. Is it likely that a consumer will constrain their spending habits today, on the proviso that products in the near future will be cheaper? Likely but not too likely. Luckily we're so driven by consumption that spending habits aren't likely to change any time soon.

Next we look at supply chains. If products and services are being sold for less, the return on investment will be less, ever decreasing circles. This may result in falling rates of investments, or more worryingly, falling costs. i.e. Labour costs. i.e. Jobs. *gulp*

So the job market will shrink. Salaries will slim down, wages will wane. Eventually long periods of deflation will result in people being paid less, or exiting the job market. Worse still this will mean people will have less money to spend, pushing our prices down further and increasing deflation measures. Ever decreasing circles (again).

And the most worrying part? Debt. because debt, personal debt, national debt, any form of debt won't change. Won't budge at all. So family outgoing will shift, with the lion share being used for debt repayments. We are one of the most heavily indebted countries in the world (thanks private banking sector!) and this debt will become even harder to shift if we enter a period of severe deflation. Japan is country that has battled with deflation since the collapse of the stock market in the 90s. A cautionary tale..

What's next?

Well the bank of England are insisting that this period of deflation will only be short lived, and I do hope Mark Carney is right. My only reservation about this is Productivity. Which has been pretty low here in the UK since 2007; and if we are to beat deflation productivity needs to soar.
Secondly, our job market isn't resilient enough to overcome deflation. The existence of zero hour contracts and similarly low paid, short term contracts presents a framework that can easily be manipulated and corrupted. Employers can reduce hours for staff at the drop of a hat, in order to save a few pennies. It's a weak system already and will only be made weaker by deflation.

We can simply overcome this by implementing a few measures; which I'm proud to say are Green Party policy. First of all increasing the National Minimum Wage and ending the punitive 1% pay freeze for public sector workers would improve matters immediately. However with Cameron and Osborne at the helm of our Nation, it seems the political landscape will yet again have our backs against the wall.