Inflation and the poverty squeeze: where will it strike?

Published on Public Finances and the Economy

Of all the ways in which trends in living standards are changing, possibly the most important and least expected has been the insidious impact of inflation on the living standards of people on low incomes. For the first time in my lifetime, the worst-off people in Britain are getting systematically and steadily worse off in real terms, as their incomes fail to keep up with rising prices.

We all complain when the higher gas bills come in and our supermarket bills go up. But those of us who have seen our mortgage payments fall, our Blackberry subscriptions become ever cheaper and the cost of electronic goods plummet are likely to have overall living costs not very different from before the downturn. On the other hand, people on lower incomes, whose spending is more focused on the essentials whose costs are rising rapidly, face inflation rates well above the official ones. This matters a lot to people whose incomes, even when the recession is over, may go up only as fast as the Consumer Prices Index because they rely heavily on index-linked pensions or benefits rather than wages.

But what has really struck me about all this has been the way these trends have become entrenched in the structure of long-term, global economic change. My recent research for the Joseph Rowntree Foundation on the impact of global factors on inflation, to be published next month, made me realise how profoundly global prices are changing the economic fortunes of worse-off families in Britain. After a long period of relatively cheap food and energy, it’s rises in these basics that are feeding inflation. The evidence suggests that this trend could continue for the foreseeable future.

Perhaps even more surprising to me has been that this relatively complex message seems to have struck a chord in the present public discourse through the media, which for a change does seem to have a real interest in whether the worst off in our society are suffering most. This aspect of inflation is becoming as prominent on some financial pagesas the impact of interest rates, and among numerous BBC interviews on the subject I was asked recently by John Humphries on the Today Programme who will suffer most.

That’s not an easy question to answer. A return to earnings growth will see state pensions go up systematically in real terms, since for the first time for 30 years they are being pegged to earnings, so you might think pensioners are protected. But many other aspects of pensioners’ incomes will be related to the CPI, and pensioners spend much of their income on basics whose prices are rising fast.

I’d say there will be two rules of thumb which will determine who are likely to be the big losers. First, whether they are among the quarter or so of people whose incomes are below the minimum needed for an acceptable living standard: our research shows that the cost of the basket needed for this standard is rising significantly faster than inflation. Second, whether they depend to a high degree on pensions, tax credits and benefits rather than wages: the Coalition’s explicit mission to cut public spending to promote private growth seems certain to favour “earned” incomes. Some politicians (like Liam Byrne in his latest blog) are waking up to these realities, and we need to keep reminding ourselves how important a role inflation is playing in underpinning this economic power shift.