Threat of twin peak inflation poses the real risk to recovery

Politicians urged to provide clarity on fiscal plans

Amid mounting concerns of a double dip recession, the economy is also under threat from ‘twin peaks’ in inflation, warns the latest Business Trends report by accountants and business advisers BDO LLP in Southampton. The BDO Inflation Index rose from 99.2 to 100.2, reaching its highest level since December 2008, indicating that prices will remain high in the medium term. Inflation is expected to drop back down to 2009 levels. However, if policy makers continue to delay setting out a clear path for both monetary and fiscal policy, there is a real threat that this uncertainty will cause businesses that have held on as long as possible, to cut capacity or be forced out of the market. This means that when the recovery begins to take firmer hold, demand for goods and services would more quickly exceed supply - leading to capacity constraints. These capacity pressures will most likely prompt price increases and a second rise in inflation. The consequence could be an earlier increase in interest rates – a second peak. The main political parties could avoid this outcome by sharing meaningful detail on how they plan to deal with the deficit. This would alleviate uncertainty for business and allow an appropriate monetary policy response. But the present lack of clarity risks steering the recovery into even more troubled waters. Kim Hayward, Lead Partner for BDO LLP in Southampton commented: “At the moment, pre-election politics run the real risk of setting the whole economy off course. The main political parties are keeping their detailed fiscal policy plans under wraps and not disclosing by how much, when and in what areas they’ll reduce the deficit. This makes any firm decisions by the Bank of England on monetary policy - including a resumption of quantitative easing - very difficult. “Greater clarity on the depth and timing of fiscal squeeze will give Mervyn King the green light to plan monetary policy that will quickly synchronise with the next government’s fiscal aims. This, together with more certainty for business, will help remove the risk of twin peak inflation.” BDO LLP in Southampton will shortly be publishing a more detailed look at business trends in the region in the third annual Central South Report, which will be released later this month.

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