Workers risk reigniting the inflation crisis by demanding large pay rises, a top economist has warned.
Marion Amiot, an economist at Standard and Poor’s, said that survey data suggests workers feel inflation is worse than it really is – driving them to demand higher wages that will push up prices as a result.
The pace of inflation has slowed dramatically from its peak two years ago, dropping back to the Bank of England’s 2pc target by September and rising a little again to 2.6pc in recent months.
However, families typically believe costs are rising significantly more quickly than that. The latest Bank survey shows the typical household in November estimated inflation at 4.8pc – almost double the Office for National Statistics’ official figure.
Government departments have recommended a 2.8pc public sector pay rise next year, above the latest rate of inflation, but unions are demanding more amid perceptions that prices are rising more quickly.
Ms Amiot said: “It is a problem for the Bank of England.
“Normally you want inflation expectations to be anchored at 2pc, which is the target for the Bank of England, but if those expectations have all shifted higher, it means monetary policy is maybe less restrictive than they [the Bank of England’s Monetary Policy Committee] think. It means they have to run a tighter policy for longer until those expectations adjust.”
Andrew Bailey, the Bank’s Governor, heads the MPC, which raised interest rates from 0.1pc in the pandemic to a high of 5.25pc in 2023 to combat the surge in inflation. Price rises peaked at 11.1pc in October 2022.
As the pace ebbed, the Committee cut interest rates in August and November to 4.75pc.
But officials are cautious about the pace of rate cuts, with some policymakers fearing they cannot yet be confident inflation is fully under control. Public worries over prices and requests for bigger pay rises risk worsening the situation.
In minutes released after its December meeting, the MPC said: “The latest increases in inflation expectations might reflect greater attentiveness among households to cost of living increases, such as the reduction in winter fuel payments, higher bus fares and vehicle excise duty, successive increases in the Ofgem price cap in October and January, and higher food prices.
“These increases might interact with already-elevated inflation perceptions, and thus could add to the persistence of domestic inflationary pressures.”
Ms Amiot anticipates one cut from the Bank every quarter, taking interest rates to 3.75pc by the end of 2025.
She said: “This is the discussion they are having within the MPC. Some think expectations will normalise quickly and that it was just a one-off that [workers were] asking for a wage catch-up because inflation was temporarily higher than usual, and this would just go away next year.
