Inflation seems to be the bogey man of the financial world; It is always being alluded to but never seems to turn up in the way that people expect. Part of the reason for this is that Governments and Banks work hard to keep it down in very single figures - or even lower - where it is more of a slight annoyance than anything. But with the sustained intervention of COVID, we are now in unknown financial territory, and quite how it will all end is anybody’s guess.
The advent of coronavirus, and the subsequent public health measures put in place to contain its spread, such as social distancing, has reduced economic activity significantly as companies and households are unable to produce and spend as they usually would. Weaker global economic activity adds to these effects, reducing export demand and disrupting international supply chains. Business revenue and household income continue to fall as a result of this global turmoil. Furthermore, the Chancellor of the Exchequer has had to borrow more to prop up the economy, and both of these factors will conspire to push up inflation for Compliance Audit Solutions.
While inflation is classified into three distinct types - Demand-Pull inflation, Cost-Push inflation, and Built-In inflation – the measure that is understood by most people are the Consumer Price Index (CPI) and the Wholesale Price Index (WPI), which relate directly to consumer prices. Inflation is currently at 0.7% (September 2020), up from 0.5% in August 2020. This means, broadly, that the cost of everyday goods is increasing in price by that 0.7% this month. Next month, it may be more, it may be less.
So, supposing inflation does start to creep up? What will be the effect on consumer behaviour?
One of the everyday measures of inflation is for fuel – both for out cars and to heat our homes. Oil is currently at a global low, since there is a glut of it, so fuel is at a low price at the pumps, saving motorists as much as £140 per year on filling up. That potentially gives them extra money to spend elsewhere or even to save.
But lower inflation also has the effect of eroding debt, and that is good news for those with a mortgage. A little inflation is healthy for the economy as it encourages the consumer to make purchases sooner rather than later, which helps businesses increase wages which, in turn, can boost the economy - this is why most central banks have a target of 2-2.5%. If the inflation rate starts to go up, the Bank of England might reduce interest rates to bring it back down. This, in turn, will help people with a tracker mortgage as their product will reduce in cost. Those with fixed rate mortgages won’t see any immediate effect.
Rising inflation curbs spending power, and forces the majority of people to spend less, as they will have less available from their pay packets to spend. Rather than get into unnecessary debt, most people would choose to reduce spending until the economy readjusts itself. But that can have its own issue as, when interest rates go down, people have more spending power and generally spend it as there is less point in saving.
Rising inflation is likely to have more of an impact this time round since it isn’t so much a product of people spending, but rather a complex situation. But there is less chance of people spending anyways as there are less shops – and those like bars, restaurants, and entertainment venues in particular - open, the future is far from bright, and people are feeling the effects of COVID.
All of that adds up to the fact that this time, rising inflation is going to prevent people spending, and there is little leeway in interest rate – already historically low – to counter it. If you’ve got it, it might just be worth sitting on it, at least until the future becomes clearer.
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