‘The monster is out of its cage’: how Brexit set inflation loose to feed on Britain

Look under the hood at our broken economic engine and its not hard to spot the reason we’re worse off than the rest of the continent

We’ve all heard a good deal of unwelcome news about mortgage rates in recent days – but the pain is going get much worse before it gets better.

To use a technical economic term, the latest UK inflation number is a stinker. So, far from rapidly tumbling towards the government’s target of 5 to 6 per cent by the end of the year – let alone the Bank of England’s 2 per cent medium term aim – inflation is not just sticky, but in fact stuck: at 8.7 per cent a year.

There will have been many puffed-put cheeks and sinking stomachs when the Treasury and the Bank got to see the stats. Prices are still rising fast, with food inflation approaching 20 per cent – the kind of price rises people under the age of about 60 cannot remember first-hand. It’s unnerving for those who’ve never seen this before; but more terrifying for those of us who did.

The lesson from history is that to get inflation under control is always more painful and takes longer than anyone expects. It’s a monster that feeds on itself, shreds savings and distorts the economy, as well as making the country poorer. Markets don’t know how to price, so no wonder mortgage rates are soaring.

We can blame the Bank of England, post-pandemic disruptions, Putin’s war in Ukraine, or Rishi Sunak. All have played their part in creating the predicament in which we find ourselves. Unfashionable as it may be to say, though, Brexit is also a malign factor, and Britain’s unique misfortune.

For we now see clearly that inflation is higher in the UK than in other comparable economies, and has been for some time. Catherine Mann, a distinguished economist who sits on the Bank of England’s monetary policy committee as an independent, calculates that Brexit has meant prices are around 4 per cent higher than they would otherwise be thanks to the cumulative effects of the 2016 EU referendum decision, when set against comparable economies, not least because “no other country chose to unilaterally impose trade barriers on its closest trading partners.”

Disrupting supply chains in and out of the EU added bureaucracy, delays and costs, which stands to reason. Brexit also affected the easy dynamic flow of needed skills and types of workers under the old freedom of movement regime, substituting a clunky, arbitrary, and politicised points-based system for the agile free market system. More people are retiring early, and more are suffering long-term illness because of the lingering effects Covid.

The impact of all that is to create a labour shortage, push wages up (and therefore business costs), and these have been passed on. In some forms they’ve also squeezed profits (for investment). The economy cannot grow without people to work in it.

The attempt to maintain living standards and wages in the face of a reduction in the capacity of the economy to supply goods and services (for lack of workers) made inflation inevitable. Using interest rates and higher taxes to hammer it down aren’t the best weapons in such circumstances; but, barring a much higher level of immigration, they are the only tools the authorities have at their disposal.

Mann asked back in February: “Is there a turning point already visible in the data? For the US and the Euro area, yes; for the UK, maybe stabilisation.”

She was being optimistic. The most depressing of the inflation readings is what they call “core inflation”. This strips out the more volatile elements, including food and energy prices, which should suggest it will be more encouraging than the headline rate; but, right now, it is actually going in the wrong direction. It’s really an indicator of how much of our inflation problem is “home grown”, which mostly boils down to wages costs and that labour shortage, worsened by Brexit.

At 7.1 per cent it is unsustainably high, and is accelerating. Inflationary expectations are being built into wage bargaining – as we see with the current wave of strikes – and, sad to say, even at this point shops and suppliers are finding it too easy to pass cost increases through to prices.

The dreaded wage-price spiral, which we thought we had expunged from the economy in the early 1990s, is back. To make matters worse, Sunak has unnecessarily added a second, informal political inflation target, which may have the impact of subconsciously making the Bank panic and ramp rates up performatively – risking a housing crash and wider slump.

If memory serves, it will take much higher rates than are even being priced in now to get inflation out of the system, because their impact is now so concentrated on such a relatively small slice of the population.

In the early 1980s and again the early 1990s, variable rate mortgages of much smaller size than now were more widely spread across the population. Now the number of people with mortgages is smaller, and a bigger proportion are on fixed rates.

The borrowers in London, the southeast and a few other pockets of affluence and stratospheric property values – especially those now trying to re-mortgage on mammoth home loans – are facing extra bills of thousands a year. Often families in their thirties, they are going to bear a disproportionate share of the burden of fighting inflation. For them, the pain may prove unbearable.