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Competition Holding Back Inflation?

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Today’s inflation data enforce something I have thought for sometime, that fierce competition is holding back inflation.

We know that energy and many other commodity prices have been rising strongly for over a year now. Manufactures around the world have been absorbing those price rises by various means, out sourcing being an obvious method. One thing they have not been doing is investing in new equipment. There have been many stories in the economic press of companies making take over bids, issuing higher dividends and buying back shares instead of investing in the future. This trend has been witnessed across the globe as highlighted by comments in recent growth data from Japan, with many companies only now starting to invest in that country. This tends to suggest that many companies are currently crash rich, which would enable them to continue to operate at a loss, possibly for quite sometime.

Therefore, I suggest that inflation will not really get going until the level of competition is reduced and those companies still operating are free to put their prices up and pass on their costs. Company bankruptcies is the key here. The companies that did not make as much profit, or wasted their profits, in the good times will have less fat to live on now, as the comsumer rains in their spending, and will be the first to go to the wall. Bankruptcies, both personal and corporate have been rising this year, but the trend is not yet fully established, assuming that it does get established then are you likely see rising unemployment and business failures next year. The trend is, if previous cycles are anything to go, likely to accelerate next year.

I believe the BoE is well aware of this and, not withstanding the current inflationary blip, they are keen to keep interest rates at an effective minimum for fear of putting companies out of business and reducing competition. Interestingly, enough this hypothesis suggests that keeping rates low to preserve competition in the market place may actually keep the lid on inflation at least in the short term.

The problem is, of course, that this will only work if the situation remains relavily stable.

Edited by FTBagain

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