Inflation drops to 9.9% – what does it mean for your savings?

Martin Lewis reacts to news inflation last month fell to 9.9%

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Inflation rates have been on the incline since the start of the year as costs of goods and energy continue to soar. After reaching a record-high 10.1 percent in July, the UK inflation rate finally saw a drop in August to 9.9 percent, driven by the falling price of fuel. But what exactly does this inflation dip mean for households, savings, and pensions?

Alice Haine, personal finance analyst at Bestinvest said:“While a decline in inflation, albeit minimal, might sound like an improvement, consumers cannot relax just yet. Household finances are still being eroded by the skyrocketing price of groceries with food and non-alcoholic beverage prices.”

According to the CPI, food and non-alcoholic beverage prices rose by 13.1 percent in the 12 months to August 2022, up from 12.7 percent in July.

The annual rate for this category was minus 0.6 percent in July 2021, but it has risen for 13 consecutive months, now hitting its highest rate since August 2008.

Ms Haine continued: “The good news is that inflation should not edge up much more from here following Liz Truss’s decision to freeze energy bills at £2,500 for the typical household this winter and next – a move that should shave several percentage points off CPI in the months ahead.

“However, the fiscal move from the Government is unlikely to prevent the Bank of England from raising the base rate by an expected 50 basis points to 2.25 percent at its meeting next week as it strives to contain rampant inflation and ward off any fallout from people having more money in their pockets.”

What does the inflation rate mean for households?

Despite the dip, inflation still remains at nearly 10 percent, making it equally as challenging for people as in previous months to budget effectively, as their spending power is still being compromised while wages fail to reflect the hike.

Ms Haine said: “Households should conduct a deep dive into their spending patterns if they want to maintain their way of life – prioritising needs over wants to ensure their finances stay afloat as winter draws in.

“While easing fuel prices and Liz Truss’s energy plan, clubbed together with the cost-of-living handouts, such as the £400 rebate, may ease the burden for some through the colder months – saving cash-strapped households £1,000 a year on average – that does not mean people are not already struggling.

“Energy prices are much higher than they were a year ago and with the cost of groceries jumping by more than 12 percent in the past month alone, household budgets are working harder than ever to stay in the black.”

Wages still fail to keep up with the rising living costs seen in recent months.

While regular pay rose 5.2 percent on the year in the May to July period, when taking inflation into account it fell 2.8 percent meaning workers’ salaries simply don’t stretch as far.

Google searches for “can’t pay bills” skyrocketed by 669 percent in the UK in August, according to a new analysis by Diggity Marketing.

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Ms Haine said: “Some households have already slashed expenditure to the max, leaving them little wiggle room for those unexpected expenses that crop up.”

However, the personal finance expert places a strong emphasis on reprioritising to ease the burden.

Ms Haine explained: “For those teetering on the edge of a debt problem, make clearing high-interest credit card balances a priority over saving or investing. You’re not going to out-save or out-invest an annual credit card rate of 20 percent or more.”

In a more positive spin, Ms Haine points out people’s individual inflation numbers may be lower than the headline rate, as it depends entirely on what people spend their money on.

She said: “The ONS calculates CPI from a virtual basket of 700 items to represent the goods and services that consumers typically purchase – from everyday buys such as milk and bread to big-ticket items such as a car or flights.

“If you don’t spend on the items with the biggest price rises, you may be looking at a lower personal inflation figure.”

What does the inflation rate mean for savings and pensions?

For savers, the inflation rate has a slightly more positive impact.

Ms Haine said: “Consumers may now be able to find easy-access accounts with rates as high as 1.85 percent and fixed-interest rates of 3.75 percent – the highest level in more than a decade thanks to the BoE’s spate of interest rate rises – but this is still no match for inflation of almost 10 percent.

“The only consolation is that the BoE is widely expected to raise the base rate again next week, a move that should see savings rates edge up further.

“The key for savers looking to mitigate the damaging effect of inflation is to shop around for the best deals on the market and remember, it is vital to have some cash set aside for life’s emergencies, particularly in this ever-present cost-of-living crisis.

“While the recommendation is to hold onto three to six months’ worth of monthly expenses, those with nothing set aside should strive to save a small amount towards that target every month.

“Each contribution, however small, will help to ease the financial stress that can come with having no backup funds in place.”

Although, for pension savers, higher inflation rates typically have a more adverse effect.

Ms Haine said: “High inflation weakens their spending power, encouraging them to reduce or stop contributions as everyday bills take priority.

“But it is far more prudent to make cutbacks elsewhere as money directed towards pensions and investments has the potential to beat inflation over the long term.”

Stopping payments into a workplace pension or Self-Invested Personal Pension (SIPP) isn’t a good idea, according to Ms Haine, as people’s money misses out on the gift of free cash in the form of tax relief.

She said: “[The tax relief] is automatically granted on taxpayers’ pension contributions at 20 percent of the amount going in, while higher rate taxpayers can claim back an extra 20 percent and additional taxpayers an extra 25 percent of the sum deposited – effectively giving your pension pot an inflation-beating bump up.”

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