Why inflation hawks are still grounded

February 16, 2011, 9:50 PM UTC

Squawk all you want about surging food prices. The inflation doves are still in control at the central banks.

The latest evidence is the latest quarterly U.K. inflation report, issued Wednesday by the Bank of England. Consumer price inflation hit 4% in January, neatly doubling the bank’s stated inflation target. Food prices rose at their fastest pace in nearly two years, rising 4.6% from a year ago.

Rich man wanna be King?

Yet Bank of England Governor Mervyn King (right) made clear that he is in no rush to raise interest rates — which is the right choice, given that raising them now would be of no great service to anyone.

As Fed chief Ben Bernanke has done in recent weeks, King is arguing that tightening monetary policy would risk short-circuiting a weak recovery in employment and incomes — without necessarily providing any relief from the surging prices of commodities sold on global markets.

Indeed, King has made the case that only a much deeper economic slump after the financial meltdown could have provided the relief from commodity price increases that are now drawing so much unwelcome attention. Of course, that would have meant even deeper declines in jobs and incomes – a tradeoff few people, even those who rail against the dangers of soaring prices, would willingly make.

Like it or not, higher commodity costs are the price of admission to the global growth show, and there is nothing any central banker  can do about it, short of pushing the recovery off a cliff. Even if commodities don’t continue their wild one-way ride, higher prices are a fact of life that strapped Western consumers might as well get used to.

Monetary policy “cannot alter the fact that, one way or another, the squeeze in living standards is the inevitable price to pay for the financial crisis and subsequent rebalancing of the world and U.K. economies,” King said in a speech last month.

This isn’t to say King and other dovish central bankers are certain they have inflation whipped. King conceded Wednesday that even with U.K. unemployment near 8% and wages flat, it is possible that consumers and businesses could start to expect a significant rise in inflation down the road – an outcome that central bankers are keen to avoid.

“The experience of above-target inflation may materially push up longer-term inflation expectations,” King said Wednesday. “Or it may not. Only time will tell.”

No inflation breakout stateside

There are certain to be some unnerving signs along the way. Bank of England’s latest forecast says inflation won’t return to the bank’s 2% target till the second half of 2012. That prompted Tullett Prebon economist Lena Komileva to call the report “the most hawkish inflation report since August 2007,” as the world stood on the cusp of the credit meltdown.

But as damaging as the the latest round of food inflation has been for poor people everywhere, particularly in resource-short developing countries, rising food prices alone aren’t likely to push nervous policymakers to actually pull the trigger on higher interest rates any time soon.

“Labor market income is going to be a more important force in terms of household income than the food price inflation in the United States,” Goldman Sachs economist Jan Hatzius said this week in an interview on Bloomberg television. “Elsewhere in the world, it is going to be different. In the emerging world, food takes up a much larger share of overall household budgets and that is why it is a more acute issue.”

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