UK consumer and producer prices are out later this morning and you can feel the scribes at the Bank of England sharpening their pencils. CPI is expected to dip below 1% by the end of the year on the back of the declining oil price and aggressive retail discounting. A letter from Carney is likely to be seized upon by the Coalition ahead of the Autumn Statement as evidence of darkening international clouds – and a mandate for further austerity. The silver lining has been the weakness of the Pound in recent weeks – particularly against USD – this should ensure that the deflationary pressures do not accelerate further in the New Year.
By contrast, the oil price decline spells the largest threat to the Eurozone where inflation is already an anaemic 0.4%. Here the deflationary impact on the public sector debt burden will be acute, and should it be allowed to embed will begin the slow and painful process towards a Eurozone break-up – most likely commencing in Italy where the debt burden and demographics are the most unfavourable. We still anticipate a Summer 2015 rise in UK rates off the back of an increasingly tight labour market and a post-General Election bounce for the UK economy – but with the risks increasingly weighted towards a move to the right.