The Secret Cost of Living ; News Analysis: INFLATION ++ Inflation Is Back in the News for the First Time in Years. but Official Figures Seriously Underestimate the Effect of Rising Prices on Household Budgets

By McRae, Report Hamish | The Independent on Sunday (London, England), January 21, 2007 | Go to article overview
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The Secret Cost of Living ; News Analysis: INFLATION ++ Inflation Is Back in the News for the First Time in Years. but Official Figures Seriously Underestimate the Effect of Rising Prices on Household Budgets


McRae, Report Hamish, The Independent on Sunday (London, England)


So the dragon of inflation has not been slain after all and we are facing higher interest rates to try to corral it. The main British inflation measure, the Consumer Price Index (CPI), is up 3 per cent year-on-year. That may not sound a lot but it is the highest it has been since we switched from the old way of judging inflation.

The old Retail Price Index (RPI) was dropped so that we could harmonise with other European countries. But that index, the familiar one, is still used for setting pensions and index-linked government securities and is cited in most wage negotiations. It is now 4.4 per cent up on the year, the highest since 1991, and is expected to go above 5 per cent this spring.

What is the difference between the two? Mainly that the old measure includes housing costs, whereas the new one does not. Getting a roof over our heads ranks at the top of most of our priorities, so this does seem a bit rum - but there it is.

In a way, it does not matter whether inflation is officially 3 per cent or 4.4 per cent. The real point is that both these figures are high by the standards of the developed world. The CPI is higher than the European average and the RPI higher than the US.

For many of us, the actual rate of inflation we face is higher still. As our graphic shows, the various components of the CPI have gone up at different rates, but beyond these are other costs that many people have to bear. These include university fees; the charge for council services; the London congestion charge; and energy costs.

By contrast, some things have actually fallen in price, including clothing and shoes and a lot of electronic equipment, including computers.

As a crude rule, over the past few years, the things we have to pay for, such as council tax and petrol, have gone up faster than overall inflation; and the things we choose to buy, such as a flat- screen TV or a jumper, have risen more slowly or even gone down.

It is easy to explain this differential inflation. Things we can import have tended to stay the same price or go down. That is thanks to a combination of rising international competition and technical advance. The growing role in world trade of lower-waged economies such as China, India and, to a lesser extent, Eastern Europe has the effect of squeezing the price of most tradable goods and services.

The main things that have not come down much are energy prices (although they are now a bit lower again than they were) - partly because of the growing demand for energy in China.

By contrast, the things we cannot import or whose technology is moving only slowly, have become much more expensive. We can buy a TV set made in China but we cannot get the municipality of Shanghai to collect London's rubbish - though I understand some of our rubbish is indeed being shipped abroad.

What is harder to explain, and in some ways more troubling, is the rise in the price of things that are not in the CPI, most notably housing. Britain has had inflation before and it has had house booms before, but by any standards the present one is remarkable. As a rule of thumb, average house prices have been three to four times average earnings. Now they are over five times, pushing six. This is a global phenomenon, with just about every country bar Germany and Japan seeing huge rises. But we have a particularly bad dose of it.

Bad? Well, for people who own houses already that may seem fine.

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The Secret Cost of Living ; News Analysis: INFLATION ++ Inflation Is Back in the News for the First Time in Years. but Official Figures Seriously Underestimate the Effect of Rising Prices on Household Budgets
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