Inflation eats your lunch… and supper too
According to some conspiracy-theory American websites, the world is so overloaded with debt that it will have to undergo a blast of high inflation to reduce the real value of that debt and set consumers and governments free from their debt burdens.
Whether this scenario will ever unfold is doubtful, but we notice that in the UK, people tend to focus on the year-on-year rate of inflation and pay much less attention to the longer-term picture. Our chart shows why this is a mistake.
The chart starts in April 2009. Since then, a £25,000 deposit in a decent 90-day notice account has grown to £27,300. But for your money to buy what it did in 2009, it would have had to grow to £31,000 to match the rise in the Consumer Price Index (CPI), which is the government’s preferred measure of inflation. To match the rise in the older Retail Prices Index (RPI) you would need £33,500 today. The result is that most people with cash on deposit have seen the real value of their capital fall by just over 20% over the past decade.
The point is that even at relatively low rates, inflation steadily eats away at the value of your capital, especially in an era when it has been the Bank of England’s policy to keep interest rates below the rate of inflation.
‘Normalisation’ - the return to an environment in which you earn interest from bank deposits at a rate of 1-2% ABOVE the rate of inflation - is not coming any time soon. Most independent analysts expect the Bank of England to raise its key interest rate to between 1% and 1.25% by the end of this year, and by not much more in 2020. But the Bank’s inflation target remains 2% as measured by the CPI - which usually means more like 2.5% as measured by the RPI.
The result is that erosion of the real value of cash on deposit by inflation (a conspiracy theorist would say ‘by stealth’) is almost certain to continue.
If, like many people, you built up money in cash ISAs to take advantage of the tax break, you might want to consider alternative options in the light of this somewhat depressing scenario.