Inflation – what is it and, more importantly, how does it affect me and my savings?
Before you read on, we will try to keep this blog as easy to understand as possible – so please don’t be put off by its title!
What is inflation?
Ahead of getting in to the details of how inflation affects us all, it’s important to understand what it is.
In a nutshell, inflation is when the prices of the things we buy and use increase and our £s can then buy less of them, meaning that our money does not go as far as it did before and its purchasing power is reduced.
For example, that loaf of bread you buy today for £1 may well cost you £1.10 by the end of the year, meaning that’s an annual inflation rate of 10%.
What causes inflation?
Inflation is caused by 2 main factors:
- Demand – when the consumer demand for goods and services is higher than the rate at which the goods/services can be produced/provided
- Increasing costs – when the cost of raw materials for manufacturers increases so they pass this increase on to you, A prime example is the cost of gas and electricity nowadays!
How does inflation affect me?
Higher food and fuel bills are the most noticeable effects of inflation. If your salary and any pay rises haven’t kept up with inflation, for example the inflation rate is 9% yet your latest pay rise was 3%, you might find your household finances are squeezed.
A less obvious effect of inflation is the way it erodes the value of your savings.
How does inflation affect my savings?
Money held in cash savings accounts hasn’t grown much in recent years due to historically low interest rates. But with inflation running high, your savings are now at risk of losing value in ‘real’ terms as you’ll be able to buy less with your money.
How can I protect my savings from inflation?
The higher the return, the less chance inflation has of reducing the spending power of your money.
Cash savings such as cash ISAs offer little risk to savers of not getting back what they’ve paid in but they provide inflation risk where the value of your money could reduce as the interest rate doesn’t keep up with the inflation rate.
This is where investments may offer an alternative. Although most investments carry a risk that you could get back less than you have paid in, they may provide the potential for higher returns to help your money grow. There are investments suitable for cautious investors through to high risk investors.
This blog is intended to provide information, not financial advice, to help you make an informed decision about savings and investments. We do not offer financial advice. You should contact a financial adviser, who may charge a fee, if you want advice.