This week saw National Statistics announce another big rise in headline inflation figures. The Consumer Price Index (CPI) annual inflation figure for December was 3%, the highest on record, while the Retail Price Index (RPI), which includes housing costs such as mortgage interest, has hit 4.4%.
| "The CPI figure is now well above the Government’s long term 2% target..." |
The CPI figure is now well above the Government’s long term 2% target, so further Bank of England Base Rate increases cannot be ruled out (it’s currently 5.25%). Nonetheless, the stockmarket has so far reacted calmly to the news, which is a little surprising given last summer’s jitters were largely attributed to inflationary fears.
Rising inflation means savers need to be especially vigilant that their money is at least keeping pace with inflation, after tax. In this respect National Savings & Investments (NS&I) Index-Linked Certificates are coming into their own. The three year 14th Issue pays RPI plus 1.15% tax-free, equivalent to a whopping 9.25% gross p.a. for higher rate taxpayers. These are well worth considering as a cash investment if you’re happy to tie up your money for the full term, although bear in mind that if inflation falls in future then so will return you receive.
Meanwhile, rising inflation should bring some cheer to borrowers, as it means the ‘real’ value of their debt will fall progressively more quickly. For example, a £100,000 mortgage would equal £66,761 in today’s money after 20 years of inflation of 2%. This plummets to £44,200 assuming inflation of 4%. The more important figure to consider here is wage inflation (i.e. the faster your earnings rise, the smaller your debt in relation to your income). Of course, if the Bank of England continues to raise interest rates in a bid to counter inflation then the cost of borrowing may rise too, but higher inflation is generally favourable for borrowers.
| "Unless you spend the same proportion on each item as assumed in the CPI and RPI calculations, your own rate of inflation could be rather different." |
However, headline inflation figures are very much an ‘average’. They are calculated using individual figures for over 20 different categories of expenditure, so unless you spend the same proportion on each item as assumed in the CPI and RPI calculations your own rate of inflation could be rather different. To help individuals better assess how rising (or falling) prices are affecting their cost of living, National Statistics has this week launched a ‘Personal Inflation’ calculator (http://www.statistics.gov.uk/pic/ ). Entering your monthly expenditures in each individual category generates your own personal inflation rate. To give you a feel for how price changes over the last year have affected you, a few of the more popular categories are listed below:
| Expenditure Category |
Weight in RPI Calculation |
December annual inflation |
| Heating & Lighting |
3.3% |
33.7% |
| Mortgage Interest Payments |
5.0% |
17.4% |
| Food |
10.5% |
4.1% |
| Furniture & Electrical Items |
5.4% |
0.8% |
| Clothing & Footwear |
4.9% |
-1.3% |
| Car Expenditure |
5.6% |
-1.8% |
Clearly, if you spend above the assumed ‘weight’ of your monthly income on high inflation categories such as ‘Heating & Lighting’ and ‘Mortgage Interest Payments’, your personal inflation will be higher than the headline rates. Some estimates suggest that personal inflation in excess of 6% is not untypical. Conversely, it’s hard to see many people having a personal inflation rate well below RPI unless they have no mortgage, use solar power and spend most of their money on electrical items and clothing/footwear!