How does inflation affect your money?
The current level of inflation will make a clear impact on savers
The rate of inflation doubled in April, making it even harder for savers to find returns that keep pace with living costs.
Inflation is essentially the rate of increase in the prices we pay for goods and services. There are two main measures of inflation, the Consumer Price Index and the Retail Price Index. Both look at the prices of a range of goods we spend our money on, such as food, drink, and going out, but the RPI includes housing costs such as mortgage interest payments and council tax, whereas CPI does not.
According latest ONS figures, inflation measured by the Consumer Price Index rose to 1.5% in April, up from 0.7% in March with higher prices for petrol and diesel, energy, eating out and clothing all helping push the rate up. But what does higher inflation mean for your money? Here’s what you need to know.
Bad news for savers
Inflation eats into the purchasing power of your money, with low interest rates making things even tougher for savers.
“The current level of inflation will make a clear impact on savers, as unless they have their cash already stashed away in a fixed rate account that can beat it, the spending power of their cash has been eroded in real terms,” said Rachel Springall, finance expert at finance website Moneyfacts.co.uk. Its research shows the top five0year fixed rate bond pays just 1.40%, whilst or those using an easy access account the top rate is just 0.50%. No savings accounts can currently match or beat the April inflation rate.
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Kevin Brown, savings specialist at Scottish Friendly, said: “The reality of low interest rates and rising inflation means it’s not logical to save in cash for the long-term as you’re effectively committing yourself to losses.
“One way to hedge against rising inflation would be to diversify your money into multiple assets. This might seem like a big step for those people that are new to investing but it can be done easily through a stocks and shares individual savings account (ISA) and will give you the potential to generate above-inflation returns.”
If you are considering investing for the first time you will need to take a long-term view, at least five to 10 years, but preferably longer, and be prepared to accept the risk that you could get back less than you put in. It’s also important to remember than you’ll still need to keep some savings easily accessible in a savings account so that you have some cash readily available in case of any unexpected expenses.
What does it mean for borrowing?
The Bank of England has shown no sign of raising interest rates any time soon, but if inflation exceeds the Government’s 2% target in the months to come, there’s a chance rates could start to rise. Raising rates helps dampen inflation as it makes borrowing more expensive.
Sarah Coles, personal finance analyst, Hargreaves Lansdown, said: “If the Bank is right, and this is just a blip, it won’t raise interest rates to bring inflation down, and only expects modest rises once the economy is back on its feet. This would be positive news for borrowers, but another horrible blow for savers.”