Methods of fighting inflation
This week I look at inflation, why it’s bad news for your savings, the cause effect of inflation, and how you can try to protect yourself against it with methods of fighting inflation.
But first, let’s be clear what inflation is. We define inflation as a rise in prices of goods or, to put it another way, a decline in the value of the pound.
What was the inflation rate last year? Last year your £1 bought you a half pound of butter, but this year butter’s gone up to £1.50… the current inflation rate price has lowered the value of the pound in your pocket.
Why does inflation occur and what are the causes of economic inflation? There are lots of reasons for this - too much demand chasing too little supply, a rise in the cost of raw materials, even the Government printing too many banknotes.
But what it means to you is prices have gone up. The Government has measured this for years, rather quaintly taking a basket of goods, including staples such as shoes, bread and eggs, heating and lighting, and seeing how much it increases each month. They used to call this the Retail Price Index or RPI.
This though is where we get into murky waters. A few years back the Government switched from the RPI to the Consumer Price Index, the CPI - changing thee definition types of inflation.
This supposedly representative measure of inflation inexplicably excludes council tax, mortgage interest payments, the cost of buying property… a huge part of what we spend our money on in other words. Perhaps more tellingly, it’s a lot lower than the RPI, currently nudging 3.3% to the RPI’s 4%.
How does inflation affect the economy and what are the effects of inflation on money? The Government trumpets that this is a good, wide ranging measure of inflation across the economy (though omitting housing costs as we’ve seen) but that’s partly the problem.
The vast majority of our spending goes on a smaller number of core goods - petrol, butter, bread, heating the house - and we all know that these have risen a lot more than 3.3% this year.
A consultancy, Capital Economics has calculated that the average middle class family in the UK is seeing inflation of 6.3%. A higher rate taxpayer would need a pay rise of 10.5% this year just to keep pace.
And it gets worse for lower income families. They spend a higher chunk of their disposal cash on food and power - the very commodities that have seen the biggest inflation. Some newspapers have estimated this ‘REAL‘ national inflation rates at closer to 10%.
So inflation limits your spending power, but its more quietly destructive effect is upon your savings.
You may think you’re being prudent tucking away your money in a high interest account, but with inflation at 3.3%, a higher rate taxpayer needs to earn 5% gross before they break even. And as we’ve seen, inflation’s a lot higher than that.
Okay, now I’ve got you thoroughly depressed, let’s look at a little damage limitation. The big risers are going to be gas and electric bills, soaring again this winter.
The best methods of fighting inflation are disappearing fast but, if you haven’t changed already, go to uswitch.com to find a cheaper tariff and switch now. Capped deals are a good bet, as though you may pay more short term you’ll save long term.
Conversely, phone and broadband are among the few costs actually to have fallen over the last year, so looking for a switch there should save you money straightaway on your current tariff.
As I noted at the start of the show - fuel stocks are one of the few actually performing well just now. If you must pay a fortune to fill the car or heat the house you might as well take a share of the profits at least!
And if you are firmly risk averse, then an index linked Bond from National Savings and Investments will at least protect your savings’ real value. Their five year bond pays a guaranteed rate of RPI plus .35%… not spectacular but safe.
However you do it, these methods of fighting inflation are damage limitation. We can at least be glad we don’t live in 1975. Recent additions to the Retail Price Index then included coffee powder, dried mashed potato, cod in butter sauce and hardboard. Ah how we lived in the seventies! Oh, and the rate of inflation? 27.9%. With real coffee, real spuds and inflation at below 10%, things don’t look so bad after all.
Related articles: Britons living standards will fall
Related links: National Savings and Investments, Best buy credit cards, Price comparisons, Capital Economics, RPI and CPI
Tags: inflation, methods of fighting inflation, protect against inflation, why does inflation occur, effects of inflation on money, inflation rates
