The Governorâ€™s speech at the Mansion House last night showed more realism about the situation, stressing the way individuals and families were going to be squeezed by the current economic policy. He did not, of course, venture a criticism of the government for refusing to squeeze the waste in the public sector to take some of the strain, did not make a case for a stronger Bank, and decided to threaten higher interest rates if people did not behave as if the Credit Crunch had never occurred. Apparently the government has now realised it got the changes to the Bank fo England wrong and wants to strengthen the Bankâ€™s role in money markets and bank supervision.
I know many of my readers think UK inflation is a much more serious problem than I do, and think the Governor is right to menace us with further tightening if necessary. My case has been throughout that we will have a difficult time with inflation for much of this year, as the high commodity prices work their way through the system. That will simply cut real incomes by more, and lead to further reductions in output and a greater slowdown in the economy as a whole. Inflation will then subside, as it will not follow through into higher wages. There will be no 1970s style inflationary spiral. The collapse of inflation could even happen more quickly if it turns out there is a lot of speculative money in commodities which suddenly departs â€“ as we saw when the gold price hit $1000 an ounce.
Readers could point out this morning that the tanker driver wage settlement, at 15% over two years, has broken out from the low single figure settlements we are used to. If this were to become a new benchmark for aggressive negotiators, and if other employers are about to concede such settlements, you would be right, and inflation will be out of control. Clearly Chancellor and Governor are worried sick about the prospect of wages taking off, as it would cause that foolish chase of differentials and money around the system which simply undermines the spending power of the pounds you seek to earn.
I am sticking with my original view despite the tanker drivers, as I think for the moment they are a special case. Any group of workers tied into the bonanza of energy and commodity prices have a chance to raise their relative position in the wages pecking order thanks to the boom conditions in their markets. Conversely, if you are in property, finance, building and construction you will be relieved merely to keep a job and will not have similar power to raise your wages. My theory can accommodate a few outrider settlements in hot areas of a rapidly cooling economy, but would be wrong if this turns out to be a more general problem. So far there is every sign the government is holding the line on public sector pay, where cost overruns in previous years have been so large. There is still discipline in most of the internationally traded activities despite the take off in Asian inflation.