The UK inflation rate just hit a record five-year low of 0.2% – and yes, this is good news. Here’s what inflation means, and how it affects you.
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What is inflation?
At its most basic level, inflation is all about price increases. In other words, if the prices of goods and services go up, there’s inflation. When prices drop, we call it deflation instead.
So how is it measured? Well, the Office for National Statistics produces a few estimates, but the one we’re most familiar with is the Consumer Price Index (CPI).
The CPI is based on the prices of thousands of goods consumers normally buy, from fuel to bread.
- The goods we spend the most money on have the biggest impact on the CPI. So, food like bread has more of an impact on the CPI than something like Christmas cards.
- Since the CPI reflects consumer behaviour, it’s a good estimate of the country’s overall economic health.
- In July, we saw the sharpest rise in consumer prices since March, partially because so many products were unavailable during the three-month lockdown period.
So, at the moment, the UK’s CPI is 0.2%. But what does this figure actually mean, and how does it affect your day-to-day finances? Let’s take a look.
What does the UK’s inflation rate mean?
The short answer? 0.2% is a very low inflation rate.
In fact, it’s significantly less than the UK target inflation rate of around 2%. And in July, the UK inflation rate was 1%, so it’s a noticeable drop. The UK government’s ‘Eat Out to Help Out’ Scheme is partly responsible for the drop, because although people ventured out to pubs and restaurants again, they spent less money overall.
But why is there such a thing as a ‘target’ inflation rate, anyway? Because a little inflation is a good thing.
- Inflation (in small doses) stimulates the economy because it encourages people to spend rather than save.
- It can also help increase wages.
On the other hand, there’s such a thing as too much inflation. A rapid rise in inflation slashes the value of your money, and you won’t see any returns on your savings. The cost of living goes up, people stop buying things, and it can lead to a recession.
Ultimately, every economy needs a little inflation, but it’s a balancing act.
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How does the UK inflation rate affect me?
Now we’re clearer on how inflation works, there’s one burning question left to answer: how does the UK inflation rate affect your personal finances? Well, it’s hard to say, because it all depends on your personal circumstances. That said, here are three ways the UK inflation rate affects you right now.
In the short term, prices for day-to-day goods probably won’t change much. This is good news because this makes it easier to budget and plan your spending.
The prices for some commodities like fuel are a little less predictable. They could drop sharply if we see another lockdown, but they could rise just as quickly. On the whole, though, it’s cheaper to buy fuel right now than pre-Covid-19.
Looking for a mortgage or a personal loan right now? You’ll benefit from low interest rates. Here’s why.
Banks and other lenders use the Bank of England base rate to set their own interest rates. Right now, the base rate is only 0.1% – a record low – so it may be cheaper to get a loan right now.
Just make sure you don’t take out more than you can afford. It’s a volatile time, and interest rates could change dramatically without much warning.
It’s not a great time to build a nest egg or take out a savings account. You’re earning less on your money because of the Bank of England’s low base rate, unfortunately.
This doesn’t mean you shouldn’t save money, though. It just means your money isn’t going as far.
The reality? Don’t obsess over the current UK inflation rate. These are unprecedented times, and the inflation rate will fluctuate in the coming months.
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