It won’t take long before the ‘rip-off Ireland’ mantra begins again

If it feels like you’re paying more for basic stuff, it’s because you are. Inflation is surging at the fastest pace in more than 20 years. The headline 5.5 per cent figure doesn’t quite capture the squeeze on households. Electricity and gas prices are up by 22 and 28 per cent respectively; petrol and diesel by 32 and 36 per cent, air fares by a whopping 66 per cent.

According to Bank of America, the average European household faces electricity and gas bills of €1,850 in 2022, up from €1,200 in 2020.

All 15 sectoral divisions that comprise the Central Statistics Office’s Consumer Price Index – everything from food and footwear to hairdressing and phone bills – registered price growth in the past 12 months. Rents and house prices, already a source of great aggravation, are also accelerating in annual terms, at 8.4 per cent and 14 per cent respectively.

It may be that inflation, not new variants or lingering unemployment, will be the ultimate pandemic sting in the tail. The cause is threefold: a rapid and quicker-than-expected rebound in domestic demand, aided by excess savings; supply chain bottlenecks; and surging energy prices.

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The rebound in demand is ironically the unintended consequence of two positive developments: government supports and vaccines, which shored up incomes and accelerated activity faster than businesses and industries anticipated or could respond to.

Much of the race-to-the-bottom globalisation we’ve seen over the past 20 years has effectively exported inflation by sourcing inputs from cheaper and cheaper destinations. However, the complex web of just-in-time supply chains and outsourced production that goes with it is now clogged.

Energy prices have their own dynamic. Low natural gas stocks, poor wind output, increased Asian demand and Russian gamesmanship have all been cited in the current price surge. There’s nothing simple in the inflation story , complex forces drive it, yet the blame game has already begun.

Gas pumps

There are stickers at gas pumps in the US – with president Joe Biden pointing to the $3.50 a gallon gas price and saying "I did that!" – part of a Republican campaign to undermine the Democrats. The climate lobby is blaming governments and the slow switch from fossil fuels.

Here the Opposition has so far kept its attacks to the Government’s response to inflation and its patently inadequate €100 energy credit plan. But for how long? As households get squeezed the political noise around inflation is likely to increase. Minimum unit pricing for alcohol will only amplify the sound.

The word "transitory" seems to be gone from the lexicon of central bankers but European Central Bank (ECB) chief economist Philip Lane insists the current price surge is a temporary Covid phenomenon that will peel away later this year.

Lane insists the elevated levels of inflation should not be interpreted in relation to historical norms but are part of what he termed a “pandemic cycle of inflation”.

He sounds less certain on energy prices, which he describes as a "major economic issue" for the euro zone, particularly the geopolitical issues surrounding gas imports from Russia.

Germany is in the process of signing off on the Nord Stream 2, a pipeline that will increase Europe's reliance on Russian gas. The fear is that Moscow will use energy as leverage in any showdown with the West over Ukraine.

The temporary theory of inflation relies on strong price growth not becoming embedded in the system but this may fail if companies and workers try to insulate themselves by raising prices and driving up wage demands, often seen as a prelude to a wage-price spiral.These can be hard to reverse once they start.

Chronic labour shortages across the economy is driving wages. Recruitment site Indeed said jobs postings in Ireland on January 7th were up 43 per cent on levels just before the pandemic hit.

Wage growth

Headline wage growth in the Irish economy is relatively strong – running at close to 5 per cent but there are compositional problems with this measurement as thousands of workers in consumer-facing sectors have not been working, skewing the reading.

Nonetheless, the anecdotal evidence from businesses is that there is a tightness in the jobs market not seen for years. As restrictions are removed, this is likely to intensify. Much of the rampant inflation of the 1970s was blamed on psychology. If people believe prices are going to rise, they’ll buy now, pushing up demand and prices, in a sort of self-perpetuating cycle.

The current pricing environment here is already high, higher than most other EU states – we are the 16th most expensive country in the world, according to price-comparison website Numbeo. It won’t take long before the “rip-off Ireland” mantra begins again.

“The ingredients appear to be in place for inflation to stay strong for longer, but costs becoming embedded in prices to create a reinforcing dynamic is not inevitable,” Bank of England policymaker Catherine Mann said in a speech last week.

Markets are now pricing in three to four interest rate hikes in the US this year, a dramatic shift in the Federal Reserve’s position from just three months ago. The less responsive ECB has so far ruled out a rate increase, offering some comfort to families.

But the corrosive effect of this accelerated price growth on household budgets looks set to dominate the economic agenda in the coming months.