Could good deflation turn bad?

Recent outright falls in commodity, import, producer and retail prices should provide a timely fillip to households and firms. However, with CPI inflation already well below target and set to fall to its lowest rate in over 12 years over the next few months, this raises the question as to whether price pressures become so weak and ingrained that they eventually destabilise the recovery.

In our view, the risk that the UK’s bout of “good” deflation turns bad are low. There is little evidence that weak price pressures are causing consumers or firms to delay their spending. In addition, firms do not appear to be responding to very recent falls in inflation by intensifying the squeeze on workers’ wages. What’s more, some of the factors exerting downward pressure on inflation should prove to be short-lived. Accordingly, we think that the weakening in inflation is a positive development for the UK’s economic recovery, not a bad omen.