Inflation is coming out of hiding again. Be warned, it can be a dangerous animal and must be kept under control at all times. If it is not managed properly it has the power to do great harm.
For the past few years it’s been lying dormant, giving the Bank of England little reason to raise interest rates to try and tame it. As a result those of us with more borrowings than savings have enjoyed record low rates for almost a decade now. Unfortunately those with cash savings have paid a high price for their prudence.
I was around in the Seventies, but too young to remember the damaging effects of inflation. However I have heard plenty of warnings from sage family members of its power to erode wages and savings. I’ve heard tales of workers getting monthly pay rises around that time and monthly mortgage payments doubling as interest rates soared to keep things in check. That still haunts me every time I renew my mortgage.
Inflation is back in focus again as yesterday the latest Consumer Price Index or CPI figures for August came in at 2.9% - more than forecast, higher than July’s 2.6% figure and way above the Bank of England’s 2% target.
Clothing and footwear prices were 4.6% higher than last year during the month. This sharp increase in clothing prices was accompanied by increasing petrol prices, small increases in the cost of package holidays and hotel rooms, which were all partly offset by a slight fall in air fares and food prices.
As most of the clothing and footwear we buy is made overseas, prices are normally the inverse of Sterling, so as the pound decreases the cost of imported clothes increases and vice versa. With the pound weakening last year following the Brexit vote this has meant prices for imported goods such as clothing and footwear have risen.
In response to the higher than expected inflation figure, Sterling surged by almost 1% yesterday to its highest level in a year against the dollar. The pound had already been higher on the day on the back of a vote in parliament to move the government’s European Union withdrawal bill - or repeal bill - to the next stage of a lengthy lawmaking process. While expected, the passing of this bill removes a layer of political uncertainty that has been keeping downward pressure on the pound.
All eyes will be on the Bank of England tomorrow as it announces whether interest rates remain unchanged or not. At the last Monetary Policy Committee (MPC) meeting in August, Michael Saunders and Ian McCafferty voted to increase interest rates, while the other six members of the committee voted to leave rates unchanged.
Whatever happens tomorrow there’s no getting away from the fact that prices are rising but wages are not moving in tandem. This is effectively squeezing household incomes across the country. If the Bank of England does become more hawkish and starts raising rates, those on variable rate or tracker mortgages will feel the effect immediately.
Savers who have suffered low interest rates for so long may heave a sigh of relief but even if savings rates do nudge up by 0.25%, it will take a lot more rises to counteract inflation if it stays around 3%.
For those looking to make their savings work harder, one option is equity income funds. These are funds that invest in company shares that pay investors regular dividends. These tend to be the shares of large blue chip companies such as banks or energy companies. The income can be reinvested or paid out and there’s also the potential for capital growth.
While some of us may have forgotten the impact of inflation or are too young to have witnessed it first-hand, it looks like, for now, we’re all going to have to familiarise ourselves with this formidable animal and adapt our spending and savings habits accordingly.
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