Britain has fallen into deflation for the first time in more than half a century, driven by falling fuel costs and the grocery price war.

After teetering on the brink for two months, Britain has fallen into deflation for the first time in more than half a century, driven by falling fuel costs and the supermarket price war.

Having dropped to 0% in February and March, inflation fell into negative territory in April, according to the consumer prices index (CPI), sparking uncertainty for retailers. But what will this period of deflation mean for the industry – and how long could it last?

Economists have been quick to emphasise that it will mean different things for different retailers. For non-food retailers there is opportunity. But for grocers, which have played a huge role in steering the wider economy into deflation, there is cause for concern.

“It’s a mixed blessing,” PwC chief economist John Hawksworth says. “The supermarkets and other food retailers are the ones that are facing the most pressure, thanks to the combination of deflation and high competition from discounters.

“In clothing, household goods, areas like that, the pressure is less of an issue. Even with prices going down, you are still seeing strong volume and value growth coming through in those sectors. There is still strong competition, but the overall environment for them is a lot better than it is in the food sector.”

‘Horrific situation’

James Brown, partner at pricing experts Simon-Kucher and Partners, agrees. “For food retailers and for their suppliers, it’s a pretty horrific situation to be in,” he tells Retail Week. “It’s a vicious price war that the retailers are playing out to try to combat the rising share of the discounters.

“Latest figures estimated that about £500m was knocked off grocery spend in the last three months alone, so for that sector, deflation is a problem – but it’s of their own making.”

As supermarket giants continue to slash their prices in the face of competition from the discounters, the grocers’ losses could prove to be other retailers’ gains. The fashion sector in particular seemed to benefit from tumbling food prices, enjoying its strongest performance in five years as sales volumes jumped 8.7% in April. “If there is more money in people’s pockets after they’ve paid their basic bills and brought their groceries, it’s bound to have some positive impact,” says Brown. “People are more likely to go and buy some new clothes for the summer, which we’ve seen happen in April.”

For big-ticket retailers, though, the situation is a little less clear cut. Experts agree that the temptation is there for consumers to hold off on their purchases in the hope that prices will fall even further in the future.

“[Deflation] happened because of the supermarket price war”

James Brown, Simon-Kucher and Partners

“That’s the fear and that’s why people get nervous about deflation – the idea that we’ll have a downward spiral,” Brown says. “But this deflation isn’t demand-driven.

“It’s not happened because people are slowing down with their shopping and retailers are cutting prices to get them to spend more, it’s happened because of the supermarket price war.

“People aren’t going to delay buying food and they are not going to delay buying petrol, so from that perspective we don’t have anything to worry about. It would only become a problem if the deflationary mindset sets in and the British consumer begins to think that prices are going to fall down.

“There’s a lot of psychology in it, but I don’t see that as a major risk right now. The areas in which prices are falling are not the ones where people will delay purchases. Retailers certainly shouldn’t jump into a discount mode, assuming that they have to offer special deals to stimulate purchases because we are in deflation.”

Short-term dip

While Hawksworth and Brown suggest that deflation could bring with it some positive by-products for the non-food sector, they admit that retailers are all-but powerless to prevent a chunk of consumers’ additional disposable income from leaking into non-retail areas like leisure activities, holidays and meals out.

“It’s a temporary dip, but it’s not persistent. I think it will last one month, maybe two at the most”

James Brown, Simon-Kucher and Partners

But they don’t foresee deflation persisting for long enough for retailers to feel the full force of such negative effects. Brown admits grocery prices may continue to drop as the supermarket price war rages on, but says the rest of the industry won’t be in deflation for long.

“It’s a temporary dip, but it’s not persistent,” he says. “In terms of deflation in the wider economy, I think it will last one month, maybe two at the most. Yes we’ve gone below zero, but it’s short term and there are no structural problems in the economy. It’s been driven by the supermarket price war.”

Hawksworth thinks the recovery may take slightly longer, but believes deflation will last “a matter of months”, with CPI returning to positive figures “by the end of the year”.

Despite those positive predictions of a short-lived spell in deflation, the troubles appear to be more long-term for the grocers.

Oil prices are already recovering and should drag the UK out of deflation relatively quickly. But the price war and the change in shopping habits that has seen consumers turn to the discounters in their droves are trends that show no signs of reversing quite so quickly – leaving food price deflation firmly on the agenda for the foreseeable future.