Interest rates: What inflation rise means for mortgages, savings, and pensions | Personal Finance | Finance

Couple calculating bills at home using tablet

Interest rates: What inflation rise means for mortgages, savings, and pensions (Image: Getty)

The Consumer Price Index (CPI) rate increased once again in the 12 months to December to four percent, adding further pressure to pockets.

It comes after alcohol and tobacco prices hit a high of more than 31 years last month, at 12.8 percent, largely following the increased tobacco duty in November.

This offset further falls in , which dropped to eight percent last month – down from 9.2 percent in November and the lowest rate since April 2022.

Most economists had expected the inflation rate to edge lower to 3.8 percent.

But what exactly does this mean for household finances? Here’s a rundown of how the recent inflation news may impact , , , and .

London, Sainsburys supermarket, chilled beer and wine section

Alcohol and tobacco inflation hit a high of more than 31 years last month at 12.8 percent (Image: Getty)

What is inflation?

Inflation is the economic term to describe the sustained increase in prices for goods and services within a specific period of time.

The goods and services analysed include everything from food and transportation to medical care, and are weighted towards the areas most consumed by households.

The Consumer Price Index (CPI), which is the international measure that examines these inflation rates, increased in the UK in December 2023 to four percent, up from 3.9 percent in November.

The inflation rate rise means higher product prices and a fall in the purchasing power of money. When general prices rise during inflation but the value of money stays the same, it means households can buy fewer goods for the same monetary sum.

Bank Of England Governor Andrew Bailey Presents Financial Stability Report

The Bank of England is widely anticipated to keep interest rates held at 5.25 percent in March (Image: Getty)

What could this mean for mortgages?

Core inflation, which strips out volatile data relating to energy and food and is a key metric used by the Bank of England to determine whether to hike interest rates.

According to ONS recent report, Core CPI rose by 5.1 percent in the 12 months to December 2023, unchanged from November.

Myron Jobson, a senior personal finance analyst at interactive investor, said: “The important dynamic is really at the core level, stripping out the volatile energy and food components of the CPI.

“Core inflation remained unchanged in December at 5.1 percent, which is unlikely to set off alarm bells among Bank of England officials but could keep them wary. It is a reminder for them to tread carefully and not rush interest rate cuts so as not to unpick progress made in taming inflation.”

Matthew Jackson, director at financial services firm Mint FS said the CPI rising slightly in December could “slam the brakes” on the lender rate war that has been raging from January to date.

He said: “It may only last for a month or so if the next print sees the downward trend in inflation continue. This pretty much guarantees that we will see a hold in the Base Rate at the next Monetary Policy Committee meeting. However, given the positive activity from buyers in the new year, this will have little to no effect on the growing demand for property among borrowers. It’s a minor bump and not a black swan.”

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What could this mean for savings?

Despite an unwanted rise in inflation, there are savings interest rates on offer that remain above inflation.

However, Adam Thrower, head of savings at Shawbrook, noted: “Our research shows that almost half (46 percent) of savers haven’t switched or opened a new account in the last 12 months. And even of the savers who say they have previously switched, almost a quarter (23 percent) did so more than 12 months ago.

“This means that many could be losing out on growing their savings. The high rates on savings won’t be that high forever, and as 2024 goes on, inflation and similarly interest rates could still fall. Savers should be acting now as time could be running out to make the most of the higher rates currently available.”

Alice Haine, a personal finance analyst at Bestinvest highlighted NS&I’s decision last week to slash the Premium Bonds prize rate from its current 24-year high of 4.65 percent to 4.4 percent from March “reflects the big shift” in the savings market.

Ms Haine said: “Savings rates jumped upwards over the course of 2023 on the back of rapid interest rate rises, though with inflation also leaping higher and higher, many savers were left with a negative return on their rainy-day pots. The slight uptick in CPI inflation comes at a time when banks and building societies are also pulling the plug on the best deals.”

She added: “There’s still money to be made though, with top easy access rates of up to 5.2 percent and top fixed rates of up to 5.3 percent. With rates on fixed-rate savings accounts dropping the fastest, those with sizeable sums to stash away should bag a bumper return on their nest egg while they still can.”

What could this mean for pensions?

Mike Smith, director at Business Expert said: “In the UK, inflation significantly impacts pensions, primarily through eroding the purchasing power of fixed income.”

For individuals receiving fixed pension payments, Mr Smith said high inflation means that the real value of their income decreases over time, reducing their ability to afford goods and services.

Mr Smith continued: “For pensions indexed to inflation, like the state pension with its triple lock mechanism, payments increase to match inflation, protecting recipients against the loss of purchasing power.”

However, he noted: “This adjustment mechanism places a significant financial burden on the pension system and, by extension, the public finances. For private defined contribution pensions, the value of the investments can be affected by inflation, as it generally leads to higher interest rates and can reduce the real returns on investments.

“Pension funds with assets that do not keep pace with inflation may see the real value of their assets diminish.”

After months of consistently slowing inflation, Shona Lowe, financial planning expert at abrdn, said the rise “will be a disappointing result” for households.

She said: “And while we wait to hear what the Bank’s interest rate decision is in early February, right now, the best thing savers can do is to focus on steps that will support long-term financial resilience.

“That includes maximising potential returns on money through saving and investing options where possible. Review whether you’re getting the top rates available on cash savings and check you’re making the most of the tax benefits of ISAs or pensions to ensure you’re on the front foot.”

What could this mean for household bills?

Julian Jessop, Economics Fellow at the free market Institute of Economic Affairs, said: “Inflation will probably also be around four percent in January, but the numbers should then drop rapidly again, especially in April when the Ofgem cap on domestic energy bills will be lowered sharply.”

The latest estimates by Cornwall Insight predict that Ofgem will lower the price cap by 14 percent in April 2024. This will see a typical dual fuel consumer expected to pay £1,660 per annum, marking a £268 decrease from January bills of £1,928 on average.

Broadband and mobile phone bills, on the other hand, are expected to surge. Richard Neudegg, director of regulation at explained: “As the majority of broadband and mobile providers base their annual price rises on December’s inflation rate plus an additional 3.9 percent, today’s figures show that UK consumers will likely pay out an estimated total of £85.5million more on their broadband and mobiles per month from April this year.

“In real terms, this could cost the individual consumer around £27.19 more a year for broadband and £24.23 for mobile bills on average. This rise of up to around 7.9 percent follows the sky-high above-inflation price rises that consumers faced last year, which for many reached 17.3 percent.”

However, Mr Neudegg noted: “There is hope on the horizon, with Ofcom currently weighing up a new ban on inflation-linked and percentage-based price hikes.

“BT yesterday committed to introducing clearer pricing plans for the summer, but crucially, April’s inflation-linked rises will still go ahead as planned which is a further blow to those already financially stretched.

“All mobile and broadband customers should check to see if they are in or out of contract, and consider switching to a cheaper deal as soon as they are able to prevent overpaying. This is especially true for anyone who hasn’t moved in the past 18 or 24 months as you’re very likely to be at or nearing the end of your contract and significantly cheaper options will be out there.”

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