Fans of Dr Dolittle might think they know what a Pushmi-Pullyu is. The Rex Harrison movie of 1967 portrayed the Pushmi-Pullyu as a two-headed llama. Yet the original books (first published in the Twenties and, sadly, full of rather unpleasant racist slurs) described the creature as a cross between a gazelle and a unicorn. Either way, it’s a problematic beast. Yes, it could talk at one end and eat at the other — a seemingly rather efficient arrangement — but how it went to the toilet, let alone engaged in reproduction, remains a mystery.
The Bank of England finds itself in a rather similar predicament. One of its “heads” is fretting about the impact of the dreaded Omicron variant on demand and activity. The other “head” is fretting about Omicron’s impact on inflation. You might be tempted to think this is just a classic case of differing opinions on the Monetary Policy Committee, comprised as it is of a mixture of hawks and doves.
But, no, it turns out that individual committee members are in danger of acquiring two heads. Michael Saunders, regarded by many outside observers as something of a hawk, declared only the other day that “there could be particular advantages in waiting to see more evidence on [Omicron’s] possible effects on public health outcomes and hence on the economy.” He’s suddenly become two-headed, as anxious about too little demand as he is about too much inflation.
Understandable, perhaps. Yet, in the US, it’s all rather more decisive. Jay Powell, recently reappointed for a second term at the helm of the Federal Reserve, is clearly becoming rather more anxious about the inflationary costs of Covid. Having seen American inflation jump from a mere 1.4 per cent at the beginning of the year to 6.2 per cent at the latest count, he’s no longer willing to claim that inflation is “transitory”. In his words, “we tend to use [transitory] to mean that it won’t leave a permanent mark in the form of higher inflation. I think it’s probably a good time to retire that word”, admitting that the risk of higher inflation has increased.
It’s an important conclusion because it suggests that, if you’re faced with an economic Pushmi-Pullyu, you will eventually have to decide which head to deal with first. Central bankers aren’t used to making these kinds of decisions. For many years, the simple rule was “demand weak, inflation low; demand strong, inflation high”. Now, we’re faced with a rather different world in which the rule appears to be “demand weak, inflation high”. Not ideal for central bankers who have to decide whether to cut, or to raise, interest rates.
Amid all this, Rishi Sunak is keen to persuade us that, even though the current tax burden is whoppingly high, it’ll soon be coming down. Current receipts — including both tax and non-tax revenues — are on track to rise to about 40 per cent of national income in coming years, the highest since the very beginning of the Eighties. For a Tory Chancellor working out how best to win the next general election, it’s a less than satisfactory result. He needs to persuade the nation that things will change.
The economic Pushmi-Pullyu is not, however, helpful for Sunak’s ambition. Our current inflationary squalls are mostly not home grown. Markets are dislocated all over the world, leading to shortages and, hence, wave after wave of price and cost increases. It may be that the Bank of England’s rate setters haven’t yet made up their minds but it’s increasingly obvious that, across large swathes of the industrialised world, the cost of borrowing will be rising in coming months.
If inflation can be swiftly brought to heel, Sunak will find it a little easier to deliver his tax cuts before the next election. If, on the other hand, inflation ends up hanging around for an extended period, his tax cutting ambitions will either have to be put on ice or he’ll have to “pay” for them with a higher cost of borrowing, courtesy of the Bank of England. Some Chancellors are lucky — but not all.
Our political leaders are understandably plotting a path for “life after Covid”. Before we get there, however, the Bank of England will have to decide which end of the Pushmi-Pullyu beast to deal with first. Dithering may seem desirable but doing so only makes our policymakers look like they’ve lost their heads.
Stephen King is HSBC’s Senior Economic Adviser and author of Grave New World