Households face a prolonged squeeze on their incomes and years of negative real interest rates, the Bank of England warned this week.
In its latest Inflation Report, it forecast that inflation will stay above its 2 per cent target next year, thanks partly to rises in utility bills, and that there's an even chance of it still being above 2 per cent from 2014 onwards.
But the Bank said inflation is likely to fall later next year because of a combination of "muted" wage growth - official figures this week showed average earnings growing by just 1.8 per cent in the last 12 months - and a "revival" in labour productivity. But this implies little growth in real wages or in employment, which in turn will hold back consumer spending - possibly significantly so if households try to pay off debt.
Private sector economists share the Bank's concerns. "We don't expect wage growth to pick up anytime soon," said Nida Ali at Ernst & Young's Item Club. "There will be little respite for squeezed household finances in the short term." And Chris Crowe at Barclays Capital warned that unemployment could rise soon as companies try to raise productivity.
"The message from faster inflation is slower growth," said Brian Reading at Lombard Street Research. With demand growth weak and inflation expected to fall later next year, economists think the Bank might do more quantitative easing - a policy which Bank governor Sir Mervyn King did not rule out. "There is still scope for further QE," said James Knightley at ING Bank.
This mix of loose policy and above-target inflation means that real interest rates could remain negative for a long time. Futures markets are pricing in a three-month interbank rate of 0.7 per cent in December 2013, rising to only 1 per cent by December 2015. This implies significantly negative real interest rates for at least another three years unless there's a major surprise.
Such nugatory returns on cash might tempt investors to hold more equities. One justification for such a shift is that the Bank expects company profit margins "to be rebuilt" as productivity recovers and wage growth stays low. But Sir Mervyn stressed that the global economic environment remains "unfavourable". It would be a brave investor who abandons cash in these circumstances.
MORE FROM CHRIS DILLOW...
Chris blogs at http://stumblingandmumbling.typepad.com