The Bank of England has published a staff working paper finding that higher productivity is neither inherently inflationary nor disinflationary. A temporary increase in productivity lowers marginal costs and prices, but inflation returns to target once prices adjust. Persistent productivity growth can instead raise expected income, consumption, investment and the natural real interest rate, creating inflationary pressure unless monetary policy tightens accordingly. Timing and sectoral incidence shape the outcome. Demand may outpace supply when households and firms anticipate gradual productivity gains, while rapidly realized gains are more likely to reduce inflation. In a small open economy, gains in tradable-sector productivity can raise non-tradables inflation through higher wages and demand, whereas gains in non-tradables can lower domestic prices. The paper identifies movements in the natural rate as a guide for policy when productivity-driven demand threatens to exceed supply.
2026-08-21Bank of England
Bank of England working paper finds productivity gains can raise or lower inflation depending on timing and monetary policy
A Bank of England staff working paper finds that productivity gains can raise or lower inflation depending on the timing of supply and demand responses, the affected sector and monetary policy. Persistent gains may lift demand and the natural real rate, requiring tighter policy, while temporary or rapidly realized gains are more likely to reduce inflation.