Sainsbury’s (2%) vs the Office of National Statistics (6.6%) vs the Daily Mail (15.5%). Fight! Fight! Fight!

What is the real level of food price inflation? Are the official numbers released by the Office of National Statistics (ONS) understated? Well the ONS is under attack from both sides. On one front there’s J Sainsbury’s CEO, Justin King, who yesterday claimed that the official food inflation annual number of 6.6% is way too high. Real food inflation, he said, is just 2%. The discrepancy comes because the ONS doesn’t recognise the price cuts that customers achieve through supermarket BOGOF (Buy One Get One Free) deals and other voucher based promotions – the ONS simply compares the shelf price of a tin of beans from month to month. Tesco has also said that food price inflation is not as high as the headlines proclaim.

On the other front is the Daily Mail. The Mail has calculated its own food inflation index, and finds that inflation in its grocery basket is running at 15.5% per year. The 74 comments from readers (our world record on this blog is 3) are almost unanimous that this survey reflects their own experiences. “The Mail’s Cost of Living Index is a brilliant and simple idea. When can we expect to see the government response to this and give an explanation why they still want to use the CPI instead?” (Derek from Hull). And this is a problem – for what its worth I think that the ONS data is pretty robust in comparison with the Mail’s snapshot of 40 odd items (you can read about the ONS food basket here) – but if people start believing that inflation is back, then it becomes much harder to fight it.

So bond fund managers find themselves in a difficult situation. There is no greater enemy to the fixed interest investor than inflation – what if we’re wrong in our view that a period of below trend growth coupled with the credit crunch will lead to disinflationary pressures reasserting themselves from 2009 onwards? So what’s our danger signal? We have to keep a close eye on wage growth. Workers’ real incomes have been stagnant now for four years, as Mervyn King discussed in the Q&A following yesterday’s Inflation Report briefing. Salaries haven’t kept track with productivity growth and inflation. As long as this remains the case, and earnings growth remains below 4.5% (it’s currently 4%), then it’s difficult to see how the UK can enter into an inflationary spiral. With profit growth deteriorating, and unemployment rising, why would employers give inflation busting wage hikes? And if wages hikes aren’t forthcoming, then higher food (and energy) costs are just going to hit incomes harder. In an economy where the savings rate is zero, and where credit is hard to come by, there aren’t many options. Consumption will have to fall – and consumption is 2/3rds of UK GDP. We all thought it would be housing that would tip the UK into recession – but could it be French bread (+44%), tea bags (+67%) and butter (+62%)?

The value of investments will fluctuate, which will cause prices to fall as well as rise and you may not get back the original amount you invested. Past performance is not a guide to future performance.

Jim Leaviss

Job Title: CIO Public Fixed Income

Specialist Subjects: Macro economics and fixed interest asset allocation

Likes: Cycling, factory records, dim sum

Heroes: Brian Clough, Morrissey, Neil Armstrong

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