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Inflation leaps to 2.3% as real pay shrinks

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Written by: Paloma Kubiak
21/03/2017
UK inflation rose to 2.3% in February, its highest level in three-and-a-half years, according to figures from the Office for National Statistics (ONS).

The ONS has released inflation figures using CPIH which extends CPI to include a measure of the costs associated with owning, maintaining and living in one’s home, along with Council Tax.

While CPIH tends to be higher than CPI, the rates were the same in February 2017, both exceeding the Bank of England’s (BoE) 2% target and estimates of 2.1% for the month.

Rising transport costs, particularly for fuel, were the main contributors to the increase in both rates from 1.9% (CPIH) and 1.8% (CPI) in January.

The ONS said fuel prices tend to reflect movements in global oil prices. Part of the increase in oil prices during 2016 to date can be explained by the depreciation of sterling against the US dollar.

Prices for food increased by 0.3% between February 2016 and February 2017, following 31 consecutive months of prices falling, on the year. The ONS said there were particularly large prices for certain vegetables, consistent with reports of poor growing conditions in southern Europe which has affected availability.

As a result, inflation in February 2017 was the highest since September 2013, having steadily increased since late 2015.

‘Monthly pay cheque not keeping up with cost of living’

Maike Currie, investment director for personal investing at Fidelity International, said: “With February’s inflation rate at 2.3% and pay growth coming in at 1.7%, real wage growth (that’s wage growth adjusted for inflation) has turned negative (-0.6%). This means our monthly pay cheque is not keeping up with the cost of living.

“If inflation continues to tick up and wage growth remains lacklustre, we will all be getting progressively poorer as each month rolls round. This squeeze on the UK consumer is bad news because consumer spending is the backbone of the UK economy.

“Inflation is a ‘Jekyll and Hyde’ character. It chips away at the value of money, which is good news for borrowers because this reduces the value of their debts. However, it also erodes the spending power of future interest and dividend payments and eats away at the worth of your original capital – bad news for savers and investors.”

Ben Brettell, senior economist at Hargreaves Lansdown, said: “As has been the case since last summer, the main culprit was the rising cost of transport, driven by higher fuel prices. Oil is priced in dollars, and sterling has fallen around 13% on a trade-weighted basis since last June’s referendum. As such transport costs accounted for 0.8 percentage points of the overall figure.”

Brettell said BoE policymakers predict inflation will peak at 2.8% in the first half of next year, before a gradual fall back towards the 2% target.

“Despite elevated inflation, those hoping for higher interest rates are likely to be in for a long wait. The most recent Bank of England minutes note that to attempt to offset the effect of weaker sterling on inflation would come at a cost of higher unemployment. As such I expect the Bank to look through these higher numbers and keep bank rate at 0.25% for the remainder of this year.

“Meanwhile inflation at 2.3% is now higher than the growth in average earnings (2.2%), meaning real pay is officially shrinking. The interplay between these two numbers will be closely watched over the coming months. The UK economy relies heavily on consumer spending and a squeeze on household budgets would not be good news.”

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