Inflation hits 2.7%, squeezing households further

Marina Gerner
12 September 2017

Inflation has hit a new high at 2.7% in August, up from 2.6% in July, according to the Office for National Statistics (ONS).

The Consumer Prices Index (CPIH), which measures inflation including owner occupiers’ housing costs, therefore remains well above the Bank of England’s 2% inflation target.

Rising prices for clothing and motor fuel were the main contributors to the increase in inflation between July and August.

"History tells us that the impact of inflation on consumers tends to be lagged, i.e. companies will try to absorb some of the pain before passing on price hikes to consumers," says Thomas Wells, manager of the Smith & Williamson Global Inflation-Linked Bond Fund.

But incomes are only estimated to have increased by 2.2% year on year in the three months to July, which means that wages are shrinking in real terms.

Mr Wells adds: "At the margin, the hurricanes in the US also pose some modest short-term global inflation risks if energy and gasoline supplies are disrupted."

However, Ben Brettell, senior economist at Hargreaves Lansdown, says it’s likely that inflation will fall back in the coming months, as the effect of Brexit-induced sterling weakness falls out of the year-on-year calculation.

Beyond the currency effect, he adds that underlying pressures working against inflation include wage growth that remains below long-term averages and sluggish productivity growth. In addition, technological and demographic changes continue to be deflationary forces. Technological change can suppress wages, with the likes of Uber, Amazon and Netflix disrupting traditional industries.

In terms of demographic change, the generation of baby boomers is retiring and they have already gone through their consumption phase, while younger generations are likely to consume less because their burdened with debt and struggling to get on the housing ladder. 

So, if there is less money to spend and less economic activity, prices are unlikely to be driven upward indefinitely. "All in all, I see more deflationary forces than inflationary in the world economy at present," says Mr Brettell.

Andrew Tully, pensions technical director at Retirement Advantage, comments: "Inflation can have a disproportionate effect on people relying on pension income to pay the bills. Although we’ve seen a move to drawdown since pension freedoms, many retirees continue to value the certainty that an annuity provides."

He makes the point that over the last year only around one in 10 people have chosen some form of inflation link or escalation when choosing a lifetime income. "Inflation can very quickly erode the spending power of a fixed income," he comments.

"People looking to take a flexible approach to their retirement finances might want to consider the new retirement accounts. These products combine the certainty of an annuity within the flexibility of drawdown and guarantee an income to pay the bills while also leaving money invested."

Other measures of inflation

Former lead statistic, the Consumer Prices Index (CPI) excluding housing costs, was 2.9% in August, up from 2.6% in July.

Meanwhile the Retail Prices Index (RPI), which is no longer a national statistic but is still used to calculate rail fare price increases and student loan interest rates among other things, stood at 3.9% in August, up from 3.6% in July. 

This article was originally published on our sister website Money Observer.

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