Peter Bickley: When the 'problem' of inflation is not one that needs fixing

Some things in life are simply unfathomable: why is it impossible to open the butter without getting the stuff on your fingers? Why is your lane on the motorway always the slowest … until you leave it? But some things do respond to a bit of careful analysis. Take the worry du jour: inflation.

Inflation is a pesky little turnip. It never really goes away, shape-shifting is its speciality and - despite plenty of warnings - it constantly takes people by surprise. Typically, we like to have a bit of it in the air but we get all agitated when a bit starts looking uppity. So now we're in a paddy because inflation is above target even though it's still a fraction of what we've coped with before.

Shape-shifters do, of course, crop up in many different guises and as a result tend to be mistrusted. Inflation is multi- formal too and is therefore widely misunderstood. This is hardly surprising given the multitude of different definitions, different measures, different origins and different consequences.

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Policy responses vary wildly, as do political responses - in some countries a number that might not play well is simply airbrushed out. Take Argentina: I once heard the (then) governor of the central bank declare that he had "no idea" what the official inflation data were measuring. Bit of a credibility problem there, then.

Even when statisticians are trying to be honest, the picture is confused. In the UK, for example, we have a cornucopia of different measures whose effects are more confusing than clarifying. Here, by the way, food accounts for 10 per cent of the index, whereas in India it's nearly 50 per cent. Each makes sense in its local context but the numbers that emerge and the appropriate policy responses simply cannot be compared.

Often the "obvious" isn't obvious at all. China looks like it has an inflation problem and there is great angst about a policy- induced slowdown in growth to head off this "threat". Food is over 30 per cent of Chinese inflation. Prices for basic foodstuffs have risen, with painful consequences for the rural poor. But for the urban (comparatively) rich, food costs have risen far more - not because of inflation but because of conscious choices to buy more expensive stuff (China just overtook the UK as Bordeaux's biggest export market).

People find all this uncertainty unsettling, partly because they are good at spotting a problem when there isn't one. Failure to distinguish between inflation that needs a policy response and "inflation" stemming from a change in relative prices is a common an error. People are right to be worrying today about "inflation"; the snag is they are probably worrying about the wrong thing.

True inflation is the flipside of a fall in the real value of money, reflecting an economy that is running too hot and reflected in generally higher nominal prices for everything - including labour.Pay goes up but no one is any better off. We depend on monetary policy to prevent it. Faux inflation may feel a bit the same: if diesel zooms up to 6.20 a gallon (yes, really) we feel grumpy, we are forced into changing behaviour but we do not witness a generalised fall in the value of money. Technically the value of money stays the same but we are all poorer as diesel grabs a bigger share of the household purse.

So when the price index goes up, it's important to understand why; and if it's faux inflation it's important not to panic - the effects will inexorably fall out of the numbers over time. Unless, that is, media frenzy feeds on general confusion and pushes people towards turning faux inflation into the real thing. And that's a real risk.

That is today's policy conundrum. Currently elevated retail prices index numbers are faux inflation, acting like a tax and making us poorer. Higher interest rates won't fix the "problem" and will dampen growth when we need it most. Yet Mervyn King and the Bank of England are being pushed in exactly that wrong direction, generally by people who really should know better.

A little more careful analysis and a lot less tub thumping would do us all good.

• Peter Bickley is a consultant economist