Hamish McRae: The great mystery: Oil prices are soaring, so why is inflation so low?

The immediate conclusion that flows from the Bank minutes is that the narrowness of the decision on the interest rate cut means that rates may now be on hold for a while. That would also be consistent with the jump in inflation. And the conclusion that flows from the labour market stats is that unemployment is now securely on a rising trend. Unemployment is a lagging indicator but this rising trend would be consistent with slowing growth. It seems the economy is likely to grow by less than 2 per cent this year - that is, significantly below the long-term natural rate of growth.

There is a word for slowing growth plus rising inflation and it is stagflation. It is an ugly word and a disagreeable combination. Should we take it seriously?

Stand back a moment. The whole world is being hit by a sharp rise in energy costs and the UK is no exception. From a balance of payments' point of view, we are not damaged, unlike almost all other developed countries, as we do not yet have to import energy. (The North Sea is in steady decline but at the moment we are still just about square.) But from an inflation point of view, we are affected just like everyone else.

If you dig into those inflation figures, most of the recent rise is in transport costs, which are, of course, directly affected by energy prices. But even items that you would not immediately think of as being energy-intensive - imported clothing for example - are to some extent influenced by energy costs. Energy affects everything.

There were also some US producer price numbers out yesterday. These showed a rise of 1 per cent month on month, driven mostly by energy prices. I see, too, that the price of Chinese exports have been nudging upwards, again forced by rising energy costs. The problem is universal.

But if you acknowledge that oil prices have just about tripled over the past year, surely the oddity is that the rise in world inflation has not been even greater. To focus on Britain, the message of that left-hand graph which shows three different measures of inflation since 1992, is surely that since 1994 inflation has been broadly flat at about 2 per cent.

Think about that. Right through one-and-a-half cycles, from the ejection of sterling from the ERM, the gradual building of the 1990s boom, the dot.com bust, the recent housing price boom - what has happened to inflation? The answer is not much. You could attribute this to the sound monetary framework established by Norman Lamont (because that is when the period began), which then paved the way for the subsequent independence of the Bank of England under Gordon Brown. I would not discount the value of the monetary framework or devalue the performance of the Bank. But actually every developed country in the world has experienced a broadly similar decline in inflation.

The big question, surely, is not whether inflation will now climb but why has it been so low for so long?

Sure, we are seeing a blip but it would be pretty astounding not to see one given what has happened to energy prices.

It will be years before the reasons for this return to near-stability of prices are fully understood. We don't yet really understand the reasons for the great inflation of 1960-1990. But when the economic historians get to grips with this period, I expect they will focus on the rise of long-term interest rates in the 1970s and the development of tools such as monetary targeting by central banks. These were then reinforced by the downward pressure on costs made possible by the communications revolution and the growing importance of two low-cost countries, China and India, in world trade.

Looking forward, you must ask: will these influences weaken enough to permit a significant rise in global inflation? The answer must be no. We don't need high long-term interest rates because we know the central banks are still on the case. They still have inflation targets and other tools. The new technologies are still in their infancy and still racing forward. (Small point: this summer the number of UK broadband connections passed the number of dial-up ones.) And the impact of China and India will continue to grow.

There is, however, a wrinkle. That is that while the price of globally traded goods is stable, the price of services in most developed economies is not. These are still rising in the UK at about 4 per cent a year, as the second chart shows. The US shows a very similar pattern. The reason, insofar as we know, seems to be that services are not yet traded internationally as widely as goods, so the downward pressures are weaker. London restaurants can apparently get away with charging £100 a head for dinner because you cannot easily import what Americans would call the fine dining experience from some factory 20 miles south of Shanghai.

So what might compress the charges for services? That will be the greatest challenge facing all developed countries: how to achieve the same increases in productivity in services (leading to the same decline in prices) as are being achieved in goods.

Leave aside the charges that the public sector makes for its services for that leads into a quite different debate, and focus on private sector services. The charges are really set by what the market will pay. If there is a squeeze on real incomes, then service providers will be forced to trim. One immediate way of so doing will be to trim labour costs and the still small but relentless rise in unemployment (third chart) suggests the early signs of just such a squeeze. Were it not for public sector hiring, unemployment would have risen earlier and faster.

The challenge facing the entire developed world will indeed be to avoid stagflation, but it is the "stag" bit that worries me more than the "flation". Weaker demand will hold down inflation, putting downward pressure on charges for services as well as prices of goods. This weaker demand is very evident in the UK and much of continental Europe; the main place where it is not yet evident is the US. But even in the States there has been some softening in the housing market and you don't need house price falls to trim demand; merely an end to the rising market will be enough to do so.

When, in a couple of years' time, economists will be able to get some perspective on 2005, they will, I think, be surprised that this surge in the oil price had so little impact on general inflation. But since energy costs seem to be moving to a new and higher plateau, rather than this being just a regular cycle, they will, I suggest, also acknowledge that energy costs did more damage to total demand than they realised. The discussion then will be as to what stopped the boom: house price stagnation or high energy costs? And they will be worried about how to crank up demand, not a resurgence of inflation.