Two-Household Stock-Flow Consistent Model of the UK Economy: Post-COVID Inflation and Incomes Policy

We present a two-household stock-flow consistent (SFC) model of the UK economy using data from the Office for National Statistics (ONS). The model explores the dynamics of post-COVID inflation with a particular focus on the interplay between inflation and income inequality, drawing on the theoretical framework of income conflict. It comprises six sectors: households (disaggregated into rentiers and workers), non-financial corporations, monetary financial corporations, insurance corporations and pension funds, the government, and the rest of the world. Employing a combination of estimation and calibration techniques, the model replicates key macroeconomic aggregates reported by the ONS between 2020 and 2023. We impose several short-term scenarios on the model to evaluate the model’s capabilities to capture distributive tensions underlying recent inflationary developments. Our results suggest that an orthodox monetary policy intervention by the Bank of England exclusively administered through interest rate management performs poorly in taming inflation and further worsens income inequality. In contrast, an alternative scenario based on progressive incomes policy administered through increased taxation of rentier incomes, rather than any monetary intervention on the interest rate, is found to generate significant improvements in income distribution and a notable reduction in inflation.