Inflationary Pressures Rise

High inflation, rising taxes?

UK interest rates have now remained at their all-time low of 0.5% for over a year. Whilst we appear to be creeping tentatively out of recession, the new Government is anxiously looking at ways to cut costs without derailing a still fragile recovery.

However, the UK Consumer Price Index was still 3.2% in June 2010. In his most recent open letter to the Chancellor of the Exchequer in May, the Governor of the Bank of England (BoE), Mervyn King, considered these levels to be the result of ‘temporary factors’ and suggested inflation will fall back below the Government-set target level of 2% ‘within a year’.

Even taking King’s explanation for the rise into consideration, it is worth remembering the rate of inflation has almost doubled since November 2009. Indeed, only a few months ago, deflation seemed the more credible risk.

In normal circumstances, the BoE would increase the cost of borrowing in order to cool inflation. It’s unlikely though that rates will rise in the short term as policymakers fear higher interest rates could endanger the economic recovery.

Low interest rates are generally good news for borrowers, but are bad news for savers, who have already endured a year of exceptionally low interest rates. Returns on cash are meagre and relatively high inflation is eroding the real value of cash. At least in the short term, Britons face the combined problems of high inflation and rising taxes, both of which will put additional – and unwelcome – pressure on disposable income.