The UK’s ‘ cost-of-living crisis ’
Thomas Henderson
The UK inflation rate (measured by the Consumer Price Index) is the highest it has been in 30 years, prompting concerns that it will cause a ‘ cost of living crisis ’ . Which types of individuals or families/households are most affected by the current inflation situation and why?
Inflation is the sustained increase in the general level of prices over a given time period. In the UK, inflation is at 10.1% for July 2022 (Office for National Statistics, 2022) as against a target rate of inflation set by the Bank of England of 2% (+/-1%). Consumer Price Index (CPI) measures inflation by comparing the weighted average price of household goods and services over time – this is key to establishing those households that are most affected by inflation. Although the whole of the UK is affected by inflation, this essay will argue that those households on lower incomes will be most affected because their nominal wages are increasing at a slower rate than the increase in inflation; also, that rises in the prices of necessities goods such as milk or bread will have a greater regressive impact on such households. Firstly, low-income households are disproportionately affected by inflation because it decreases people’s real wages. For example, re al wages in April 2022 were 3.4% lower than a year earlier which is the biggest drop since modern records began in 2001 (Atkinson, 2022). Furthermore, those on low incomes tend to have fewer assets, which they can also protect less well from inflationary pressures. This means that inflation could exacerbate the self-perpetuating cycle caused by income/wealth inequality. The self-perpetuating cycle is caused because wealth normally grows at a faster rate than income, which means that wealthier people can draw income from their wealth through dividends or interest. Another point is those people on higher incomes have more disposable income which provides a cushion against the effects of inflation. Also, inflation causes peopl e’s disposable income to decrease which means a greater proportion of their income will have to be spent on necessity goods. Hence, this reveals the harshly regressive nature of inflation. This leaves less money and is likely t to leave more people stuck in the poverty trap. This is where people cannot afford the basic necessities like food, energy and shelter and have difficulty gaining the skills needed to have a chance at having higher paid jobs. Hence, inflation can drastically increase both income and wealth inequality. Secondly, the whole economy is affected by inflation because it causes a period of economic uncertainty in which there are high inflation expectations. This phenomenon can cause workers to demand higher wages above the rate of inflation which may cause a wage-price spiral where firms raise their prices in order to pay higher wages: this cycle can be hugely damaging to all households in the UK. For example, the RMT is demanding that Network Rail workers get a 7% pay rise (Windsor, 2022). The strikes have led to people across the country not being able to get to work and caused them to use more expensive alternatives such as cars or taxis. Another point is the economic theory of money illusion could result where workers see their pay rise in nominal terms rather than it being adjusted for inflation (Fisher, 1928). Hence, this could lead to a positive wealth effect where consumer spending increases and causes
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