Guide to Inflation

Inflation has become a hot news topic of late, with the UK annual rate of inflation being at its highest since records began in 1997. In July 2008, inflation rate rose to 4.4%, which is more than twice the Government’s target.

Inflation figures generally represent the overall effect of prices, some will go up and some will go down. Not everyone understands what inflation is or what it does to your finances, savings and cost of living.

What is Inflation?

Inflation is the general increase of prices across the economy which is otherwise known as the “cost of living”. The definition of inflation is: “a general increase in prices and fall in the purchasing value of money”, effectively meaning that your money won’t buy you as much today as it did yesterday.

In the UK, the rate of inflation is most commonly identified by the Retail Prices Index which is published every month by the National Statistics Office. It is the measure of change in prices for typical household goods and services, in comparison to the year before and could affect whether or not you ned to seek debt advice in the future.

UK Inflation

Causes of Inflation

The causes of inflation are not crystal clear, and many economists are not in agreement about what causes inflation. Generally, the causes of inflation are seen as:

  • Too much demand for too few goods/services, which means that higher prices can be commanded.
  • Pay rises can lead to companies increasing the prices of their products.

Types of Inflation

There are different ways that inflation can be calculated, so there are a number of interest rate types which you should be aware of:

  • Retail Price Index (RPI) – This known as the headline rate and includes the cost of mortgage inflation rates. It is likely to be the one that you have mostly heard of as it is commonly quoted in the media.
  • Retail Prices Index minus mortgage interest payments (RPIX) – This interest rate is preferred by the Treasury. It excludes mortgage interest rates which are set by the Bank of England, so it is believed to be a purer measure of actual prices trends.
  • Retail Prices Index minus mortgage interest payments and taxation (RPIY) – This is preferred by the Bank of England and best shows the core inflation rate.

Consequences of Inflation

Inflation affects different people in different ways…

Imagine that you have seen an mp3 player which costs £100, you could either borrow the money or you could save up over a year. If the inflation rate is at 3%, this is how it would work:
Borrower: You have decided that you want this must have item right away and agree to borrow at 15% interest rate over a year. You will have paid £115 for the item when it is only worth £100. With a rate of inflation at 3%, the mp3 player will not be worth this much for another 5 years.
Saver: You have decided to save £100 in a bank which can offer you a 10% interest rate, so you will have £110 in the bank. Due to the 3% inflation rate, the mp3 player will now cost you £103 but you have accumulated additonal interest on what has been saved.

So if you are struggling with money already, and the cost of items are going up but your wages are staying the same, you might need help to manage debt. This is where One Advice come in, we can offer you access to a number of the leading debt solutions which aim to reduce your outgoings to your unsecured debt.