Inflation risk – what it is and how to protect your wealth now

As Britain continues to move towards a new post-Covid normal, one comment by the Bank of England’s (BoE) chief economist could give you a reason to feel upbeat.

According to the Daily Mail, Andy Haldane says Britain’s economy will bounce back like a “tennis ball” and could put us ahead of other nations in terms of growth.

When you consider the Guardian reports £192 billion has been saved by households since the start of lockdown in March 2020, there is a lot of unspent money. It also suggests that 26% of that amount could be spent when Covid rules are lifted, a figure that dovetails into data from the Office for National Statistics, which reveals retail sales were up 42.4% year-on-year in April.

As the chart below shows, 25.4% of that was spent in non-food stores.

Source: Office for National Statistics

Small surprise that the BoE has increased its predicted growth of Britain’s GDP from 5% to 7.25%, the highest level for seven decades.

So, it’s all good, you may be thinking.

Well, not necessarily. As the UK and the rest of the world starts to recover financially, the media and economists are raising concerns that inflation could spiral, which could impact on your savings.

Read on to learn about inflation, how it may devalue your wealth in real terms, and what you can do to potentially prevent this.

1. Inflation is the increasing cost of goods and services

Inflation is the rate at which the prices of goods and services increase. It’s seen as a key measure of the nation’s financial wellbeing with a small amount being viewed as a good thing.

The issue, however, is when your money is not growing in line with, or above inflation. It means the cost of living is rising more quickly than the growth of your money. In other words, your money is being devalued in real terms.

In May 2021, UK inflation doubled to 1.5% from 0.7% the month before, which is still below the BoE’s target of 2%. To put this into context, the below graph reveals that if inflation averages 2% over the next 10 years, you will need £121.90 in 2031 to have the same spending power as £100 today. In other words, your money will need to grow by more than 20% to maintain its value in real terms.

Source: CPI Inflation Calculator

2. Energy prices and demand for clothing has pushed inflation up

A surge in oil prices as the world starts its post Covid recovery is one of the reasons inflation has started to rise, according to media reports. Another is the rise in UK gas and electricity bills and also increased demand for clothing and footwear as retailers re-open.

Economists believe that these, together with the financial stimulus governments have poured into economies across the world, will result in increased inflation. While some have suggested it will only be temporary, others such as Reuters are suggesting it could be longer lasting.

3. Low interest rates mean your money could reduce in value in real terms

If your money is in cash savings you are probably receiving less interest than the current inflation rate, meaning your wealth is devaluing in real terms. The following graph shows the reduction in average interest rates for various types of accounts between June 2016 and March 2021.

Source: Which?

While a recent Guardian article explains that interest rates edged up in May 2021, it adds the average easy access account rate is still 0.16%, down from 0.4% a year ago. If you are willing to lock your money away for a year, you could achieve 0.85% with the likes of Atom’s Fixed Saver account – still well below the current inflation rate of 1.5%.

4. Interest rates may not rise in line with inflation

In the past, interest rates tended to rise with inflation to counter the latter’s impact on your money. That said, a report by Reuters could make for sobering reading.

It points to research carried out by the news agency that reveals 54 out of 57 economists expect the BoE to keep its interest rate at 0.1% until 2024. The Guardian suggests the BoE is unlikely to raise interest rates if inflation goes up as doing so would increase the cost of servicing the UK’s debt burden.

This means there could be a delay in interest rate rises, even if inflation continues to go up.

5. Investing your money could help inflation-proof your savings

Even when interest rates moved with inflation, the long-term growth potential offered by investing typically outweighed savings.

The graph below shows the performance of the FTSE 100 since 1990. Despite several downturns, if you had invested your money in the index 30 years ago your investments could have tripled in value.

Source: London Stock Exchange

This is echoed by the 2019 Barclays Equity Gilt Study, which tracked the nominal performance of £100 invested in cash, bonds or equities between 1899 and 2019. It shows that £100 invested in cash in 1899 would be worth just over £20,000 in 2019, compared with the £2.7 million it would have been worth if the £100 had been put into stocks and shares.

That said, investing should not be entered into lightly. That’s why speaking to a financial planner is essential, as they will help you understand the risks and potential rewards, providing peace of mind that inflation-proofing your wealth in this way is the right thing for you.

Get in touch

If you would like to discuss inflation-proofing your money or creating a financial strategy to expose your wealth to greater potential growth, please email us on or call on 01904 655 330.

Please note

This article is for information only. Please do not act based on anything you might read in this article. All contents are based on our understanding of HMRC legislation, which is subject to change.

The value of your investments (and any income from them) can go down as well as up and you may not get back the full amount you invested. Past performance is not a reliable indicator of future performance. Investments should be considered over the longer term and should fit in with your overall attitude to risk and your financial circumstances.

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