UK inflation to rise to 2.0% by end of next year, says EY Item Club

The EY Item Club has estimated that UK inflation will reach 2.0% by the end of 2021. 

UK inflation to rise to 2.0% by end of next year, says EY Item Club

The prediction comes as consumer price inflation came in above all expectations in July, rising to a four-month high of 1.0% from 0.6% in June and 0.5% in May, which had been the lowest level since June 2016, according to the latest figures from the Office for National Statistics (ONS).

While 1.0% is still relatively low, it adds to recent news on consumers’ weaker purchasing power and follows falling earnings data. The latest ONS data show average earnings fell 1.5% year-on-year in June.

The EY ITEM Club suspects inflation could get down to a low of around 0.2% over the next few months. Price-conscious consumers, excess capacity and limited earnings are likely to limit inflation in the near term at least.  

There was evidence of limited price pressures further down the supply chain with producer input prices falling year-on-year.

Inflation looks set to fall back in August as the impact of the temporary VAT cut for the hospitality sector is felt. However, the rise in inflation to 1.0% dilutes the chances that it could temporarily turn negative over the coming months, which the Bank of England had suggested is possible.

The EY ITEM Club expects inflation to rise gradually during 2021 as the recovery gains traction. Even so, it is unlikely to rise sharply next year and could be around 2.0% by the end of 2021.

The ONS also reported that real earnings fell 2.2% year-on-year in June and were down 2.0% year-on-year in the three months to June.

RPI inflation rose to 1.6% in July from 1.1% in June; this rise is disappointing for rail commuters as the July RPI rate will be used to set the increase in regulated train fares in January.

Consumer price inflation was primarily lifted in July by prices for clothing and footwear, fuel and furniture and household goods. Food had a modest downward impact.

Core inflation rose to 1.8% in July from 1.4% in June and 1.2% in May (the lowest since October 2016).

Howard Archer, chief economic advisor to the EY ITEM Club, said: “Price-conscious consumers, excess capacity and limited earnings are likely to limit inflation in the near term at least. While the economy is seemingly recovering relatively well in the third quarter after its record second quarter contraction, uncertainties remain about the longer-term outlook and consumers look likely to be relatively cautious in their spending after the release of some pent-up demand.

“The near-term fundamentals for consumer spending look challenging. Many people have already lost their jobs, despite the supportive government measures, while others will be concerned that they may still end up losing their job once the furlough scheme ends in October. Additionally, many incomes have been negatively affected. This is likely to keep consumers price-conscious for some time, even though the economy is now recovering. Limited earnings will also have a dampening impact on inflation.

“Relatively low oil prices should also limit inflation – although the downward impact from lower fuel prices has come to an end. While Brent oil has risen from a near 21-year low of $15.93/barrel on 22 April to currently trade around $45/barrel, it remains at a relatively low level and is still some 31% below the late-January level of $65/barrel. The EY ITEM Club currently expects Brent oil to average around $41/barrel in 2020 and $48/barrel in 2021.”

He added: “There was evidence of limited price pressures further down the supply chain in July with producer input prices falling 5.7% year-on-year, although they rose 1.8% month-on-month. Meanwhile, producer output prices were down 0.9% year-on-year as they fell 0.3% month-on-month.

“The EY ITEM Club expects inflation to rise gradually during 2021 as the recovery gains traction. However, inflation is unlikely to rise sharply next year and it could well be around 2.0% by the end of 2021.”

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