Britain’s looming inflation crisis is entirely of Labour’s making

JAMES SPROULESat, May 16, 2026 at 6:00 AM UTC

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Rachel Reeves, just like the politicians in the high-inflation 1970s, is unwilling to rein in government spending - Ben Montgomery/Getty

These are undoubtedly challenging times; low growth, rising taxes, and falling employment have resulted in a general malaise gripping Britain.

While there are many reasons behind these ills, one critical factor underpinning the gloom is inflation. The good news is when inflation is tamed, many of these challenges – from interest rates, to the cost of government spending, to encouraging investment – can all be righted. Until then, we have a problem.

Happily the inflation we see today is not a patch on what we went through in the 1970s, when levels briefly touched 25pc. Then, countering inflation was at the top of the political agenda.

Milton Friedman described it as “the only tax that can be levied without legislation”.

The root of 1970s inflation was threefold. The most obvious trigger was energy costs, which rose by a factor of 10 or more. Then, an inflexible labour market meant adjustments to cope with rocketing costs were nigh impossible. Third, politicians, then as now, wanted to live beyond our means, leading to unsustainable levels of borrowing.

This all sounds depressingly familiar, but there are key differences as well. Crucially, we now have an independent central bank focused solely on countering inflation. We also have a greater understanding of what drives price rises, and from wage trends to growth in the money supply, everything is measured.

This means double-digit inflation looks unlikely, but it does seem probable that inflation will exceed, double, or even triple, the 2pc target rate. We might call this longer-term, above-target level “active inflation”.

There are some unhelpful macro-economic factors sitting behind this.

First, we are experiencing the end of “imported deflation”. From around the time China joined the World Trade Organisation in 2001, manufacturers across Europe started shifting production to take advantage of the lower Asian cost base. Consumers benefited, not only through being able to buy cheaper items but because the broader goods deflation allowed a rise in the price of locally produced services, a balance which allowed inflation to remain on target.

However, even before the pandemic, imported deflation was falling away as outsourcing to Asia changed from being a cost-reduction strategy to accessing digital talent.

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Second, slowly – seemingly inexorably – the size of the state has grown, from 35pc of GDP in 2000 to 45pc in 2023. Over the same time the Government’s own data show public sector productivity has been stagnant, as against wider economic productivity growth of just under 2pc. Devoting ever more of our economic capacity to less productive activities invariably boosts inflation.

In normal times many economic issues are self-correcting.

For example, the expectation would be that recent falls in employment would exert downward pressure on wages, but times are not normal. The National Living Wage has soared above productivity gains, rising by 49pc since 2022.

Then there is the Employment Rights Act, bringing expectations that costs will rise still further and labour markets will be less flexible. All this indicates a permanent reduction in demand for labour, and the latest mandated rise to the National Living Wage will, at least for the next year or so, be inflationary.

So what would “active inflation” mean? Double-digit inflation clearly demands immediate reaction. The danger is that active inflation might merely be thought transitory and so a less pressing priority.

But inflation at double the target rate still compels higher interest rates. Inflation still penalises savers and rewards borrowers. It makes forecasting more difficult and so discourages investment. It encourages immediate but unsustainable consumption.

Higher inflation also benefits businesses that can raise prices without losing customers. Typically this means strong brands and providers of essential goods and services. By nature these tend to be larger, more established firms. Meanwhile the losers are start-ups, innovators, disruptors and challenger companies.

Dampening entrepreneurialism is never good, but doing so at a time of rapid technological change – when the Government and business alike appear to be pinning significant hopes on technology as a driver of desperately needed growth – is highly self-destructive.

The UK economy is being hit hard by the Iran war, and various scenarios forecast inflation to rise to 4pc by the end of the year. But the unfortunate truth is that this crisis has only revealed, not caused, a far deeper-rooted challenge.

We have an increasingly unresponsive economy, we are living beyond our means, and we have an over-reliance on imported energy. All have combined to make us much more vulnerable than we think. If we cannot get a grip on these issues, then “active inflation” will persist – and we will all steadily become poorer.

Original Article on Source

Source: “AOL Money”