The increase in the annual inflation rate to almost 5 per cent, revealed in the latest figures from the Central Statistics Office, is worrying. Forecasters had expected that the annual rate in April would be a little lower than the 4.6 per cent figure recorded in March. Instead the rate rose to 4.9 per cent, due to a combination of factors including rising tobacco and drink prices, higher mortgage rates and an increase in transport costs.
The Government continues to insist that the inflation rate will fall back over the balance of the year; this may happen, but its calculations could be thrown out if oil prices do not ease back, or the euro weakens sharply further.
The publication of yesterday's figures led to calls from the trade union movement and from Opposition parties for the Government to act. Senior trade union figures have called for a reduction in excise duty on petrol and a similar cut in the standard VAT rate as a way of reducing the inflation rate.
The concern of the trade unions is understandable. They have just negotiated a new agreement - The Programme for Prosperity and Fairness - which would yield a 5.5 per cent rise to their members this year. The risk is that rising prices will almost wipe out any gains from higher wages and salaries, although lower taxes will also boost take-home pay. Meanwhile those trying to buy their first home must deal with sharply inflated house prices - a factor not counted in the consumer price index.
The danger is that a high inflation rate will become ingrained in the economy. For some years now consumers, employees and business have lived with a low inflation rate and this has become the norm. Now expectations about the likely path of inflation are changing and this in itself can perpetuate the problem by leading to higher wages demands and rising prices.
Unfortunately, there is no "quick fix" that the Government can apply. It may be worth considering some reduction in excise duties or VAT, particularly if this is necessary to head-off demands for further wage rises. The difficulty, however, is that while such measures would immediately benefit the consumer price index, they would also boost demand by putting more money into people's pockets. Cutting indirect tax is also, by its nature, a once-off measure.
The normal policy response to fight inflation - higher interest rates - is not available to policymakers here. True, the European Central Bank is gradually increasing interest rates. But there is no doubt that were the Central Bank of Ireland still able to control our borrowing costs, they would be a lot higher. Last night the US Federal Reserve Board announced its sixth rate rise since last June to combat inflation there, but here our borrowing costs remain much lower despite our high inflation rate.
Perhaps the Government is now regretting the expansionary nature of the tax cuts in last December's Budget, which gave the largest benefits to the better off. It must now hold its nerve against many of the pay demands emerging across the public service and press ahead urgently with measures to tackle the housing situation. If higher inflation takes hold, then it could damage prospects for growth in the medium term and undermine hopes that the economy here can continue to out-perform the rest of the EU.