Inflation at 10.1%: How the return of double-digit inflation affects consumers, their mortgages, savings and pensions

Alice Haine, Personal Finance Analyst at Bestinvest, the DIY investment platform and coaching service, comments:

“The slight increase in inflation to 10.1% in the 12 months to September from the 9.9% might seem modest, but consumers aren’t out of the woods yet as inflation is expected to increase again from here – further eroding purchasing power at a time when borrowing costs are also continuing to rise.

“Household finances are still being impacted by the skyrocketing price of groceries with food and non-alcoholic beverage prices rising by 14.6% on the year to September, up from 13.1% in August.

“The hope is that the cap on energy bills this winter will help to curb the alarming jumps in inflation that have become the norm in recent months and lead to a peak before the end of the year.

“Furthermore, new Chancellor Jeremy Hunt’s reversal of the unfunded tax cuts in the recent mini-Budget are aimed at restoring fiscal credibility but should ease inflationary pressures next year albeit at the price of lower growth as tax rises bite. Ditching the plan to slash the basic rate of income tax by 1p from April, abandoning the freeze on alcohol duty and VAT exemptions for tourists and scrapping plans to cancel next April’s corporation tax increase to 25% from the current level of 19%, are all moves that will help to quell rampant price rises.

“That does not mean inflation, which has returned to the level it was in July, won’t rise from here as much of the inflationary pressures seen over the course of 2022 have been caused by global challenges such as the war in Ukraine, supply chain issues and a weaker pound, which pushes up the cost of imports such as food.

“Those challenges remain and while the loose fiscal policy unleashed by Kwasi Kwarteng has now been replaced with a tighter fiscal strategy of tax rises and spending cuts, Kwarteng’s removal of the 1.25 percentage point increase to National Insurance is continuing along with the threshold raise for stamp duty from £125,000 to £250,000.

“Hunt’s decision to cut short the energy price cap guarantee, with the rebate ending in April next year rather than April 2024, could also be inflationary, as some analysts expect bills to jump 73%*, based on current wholesale prices.

"While the Government says more targeted energy measures will be considered going forward – helping the most vulnerable rather than all households - for now high inflation is here to stay with the general expectation it will remain in double digits in October and stay elevated for the rest of this year and the early part of next before dropping back to more manageable levels towards the end of 2023.”

“High inflation is the enemy of household finances, as it slashes spending power and erodes savings, making it very hard for people to maintain their living standards.

“While Hunt’s decision to rip up the mini-Budget may reduce the volatility seen in the financial markets over the past few weeks, it is not going to ease the squeeze on household budgets.

“Yes, National Insurance Contributions will reduce by an average of £330 a year from next month, and, yes, property buyers have less stamp duty to pay if they want to purchase a home, but this is quickly wiped out by higher taxes with income tax thresholds remaining frozen and no light at the end of the tunnel now that the 1p cut to the basic rate of income tax has been scrapped and the emergency energy price cap guarantee will end prematurely.

“While the Government’s decision to abandon its controversial fiscal plan means the Bank of England is now under less pressure to tackle inflation aggressively, it is still expected to push ahead with a base rate rise of at least 1% when the Monetary Policy Committee next meets on November 3 as it strives to bring double-digit price rises closer to its target of 2%.

“This will offer little relief for homeowners still grappling with a very challenging mortgage market. Hunt’s decision to rip up the mini-Budget may have eased the mortgage panic to some extent - a worrying feature of the past few weeks as lenders pulled more than 1,700 products and backtracked on offers in the face of soaring borrowing costs – but it has not quelled it altogether.

“With the pound strengthening and gilt yields – used by lenders to price mortgages - falling, markets have stabilised their base rate expectations, which should in theory ease the need for further mortgage rate increases

“However, so far mortgage costs have continued to rise despite’s Hunt intervention, with the average two-year fixed-rate jumping to 6.53%** on Tuesday, above the 14-year high hit last week, while the average five-year fixed rate rose to 6.36% with fears a typical two-year deal could breach the 7% mark before the end of the year.

“While some of the increase can be accounted for by a surge in demand for mortgages as buyers race to lock in a deal before the situation worsens, for now homeowners and buy-to-let landlords – particularly those with a fixed-rate expiring within the next year - face a series of budget decisions as ‘eye-wateringly’ difficult as Jeremy Hunt as he strives to balance the books.

“With the Government’s flip-flopping approach to tax cuts expected to drive the economy into an even deeper recession, households should batten down the hatches when it comes to personal spending, focusing on the costs they need to shell out for, such as food, energy, household bills and fuel, and slashing expenditure on life’s little luxuries to ensure their finances survive this difficult period.

“Workers’ incomes are already failing to keep up with rising living costs with real wages falling 2.9% in the three months to August damaging disposable incomes in the process.  With inflation expected to go up again, salaries simply won’t stretch as far in the months ahead.

“For households that have already slashed spending to the max, now might be the time to seek the advice of a debt counsellor if they fear they are going to miss a credit card, loan or mortgage payment. Make clearing high-interest credit card balances a priority and shop around for a 0% balance transfer or spending credit card to give yourself some breathing space if you have a niggling debt you cannot pay off.”

“With the cost-of-living and cost-of-borrowing crises dominating the headlines, the message is now clear - this is not the time to be frittering away cash. Instead, one of the best ways to emerge from this period of financial instability intact is to hold onto your pennies and save and invest what you can to secure the best return possible.

“Consumers may now be able to find easy-access accounts with rates above the 2.5% mark and fixed-interest rates of over 5% - the highest level in more than a decade thanks to the BoE’s spate of interest rate rises – however, these are still no match for inflation of 10.1%.

“But as we should all have an emergency fund of at least six to 12 months’ worth of expenses stashed in an easy-access account - to pay for unexpected expenses or to protect against job loss or ill health - shopping around for the highest rate you can find will still pay off.

“For those with a longer-term savings plan, that involves contributing to a workplace pension, Self-Invested Personal Pension or ISA, the current environment might encourage some to stop saving to preserve cash. But making cuts today can jeopardise your financial future, so pausing or reducing contributions should be an absolute last resort.

“Instead, aim to maintain your regular savings habit to take advantage of the effect of compounding even if you can only spare a small amount. As an example, £50 a month, growing at 5% a year (net of fees) can give you a pot of £20,000 if it is carefully nurtured over a 20-year period,

“Taking a break from investing – even a short one – can significantly dent your retirement income. One study*** calculated that stopping the minimum auto enrolment amount into a workplace pension for a year at the age of 25 might save £622 at the time, but this could equate to losing £7,300 from your total pension fund at retirement. A five-year break is even more detrimental – equating to a loss of £42,100 when you retire – while a 10-year break could see someone lose almost a quarter of their total fund.

“Pensions actually cost less than you think because of the gift of free cash in the form of tax relief. This is automatically granted on taxpayers’ pension contributions, with a basic rate taxpayer receiving 20% tax relief, while higher rate taxpayers can claim back an extra 20% of the sum deposited and additional taxpayers an extra 25% of the sum deposited – giving your pension pot an inflation-busting bump up.”

* Resolution Foundation

* According to Moneyfacts

*** According to Aegon