23 December 2021

Tidings of Comfort and Joy?

Inflation has been a buzzword in 2021. What does the inflation rate look like in the UK? What does this mean for the wider economy?

As I write this, Christmas is almost upon us and, while it looks as though we can get together with friends and family in a way denied to us last year, the chance of tougher restrictions being brought in immediately after the festive weekend is growing exponentially. Omicron is driving governments to introduce lockdown measures in a way we had all hoped would not recur again. It makes one wonder what the future might have in store, both socially and financially.

In any event, it makes better sense to look forward to 2022 as this year draws to a close, rather than to reflect on what has been a difficult - but not financially damaging so far as investors are concerned - 2021. Indeed, major markets have delivered positive returns this year, which seems remarkable, given the uncertainty that still exists over the economic consequences of the pandemic. Perhaps we have all become used to Covid, though a lack of attractive alternative investment opportunities and lots of central bank liquidity will have done no harm.

We have seen interest rates rise in, the UK albeit modestly, and inflation take off in ways not seen in decades. Much will depend on whether the rise in the cost of living does moderate as the year ahead progresses, which is what the balance of opinion still expects. However, there is a growing belief that the peak will be higher than previously forecast and the downturn delayed by some months. Perhaps interest rates might rise further as a result. Then again, Omicron could force central bankers to stay their hand.

Inflation is, of course, a two-edged sword. It enhances the value of some assets and devalues debt. With government borrowing rising to £17.4 billion in November – way ahead of official forecasts – the devaluing element of inflation will be welcome in some quarters, even if the cost of servicing index-linked bonds is rising as a consequence. And the belief that goods could cost more could encourage consumers to spend and investors to buy. It’s an ill wind…

Much will, of course, depend on the impact that the Omicron variant has on economic activity. As well as placing a potentially severe strain on the NHS, it threatens to take key workers away from jobs that could be crucial in maintaining economic and social stability. Little wonder the government has been in a quandary over what action to take. Next year promises to be as challenging as the one just ending, but there are at least some signs that we may be closer to the peak of this particular wave of infections than the scientists fear. If we are, we can take comfort from that.

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