The British economy is about to become enmired in a debilitating cost-of-living crisis, caused by rising inflation, increased costs of borrowing, and an added tax burden, all superimposed on the economic shock of the pandemic and the effects of Brexit, and alongside longer-standing issues such as wage stagnation, whereby wages have failed to keep up with prices, a gig economy, and cuts to social welfare spending.
The Consumer Price Index (CPI), a weighted average of changes in prices of a “basket” of around 720 representative goods and services consumed by a “typical household”, increased to 5.4 per cent in December 2021, its highest level since March 1992, and is predicted to reach 7.25 per cent in April 2022. Price inflation beyond certain acceptable limits is most undesirable, as it reduces the purchasing power of the pound, erodes savings, and leads to a fall in disposable income. In free market economies, the “price signals” of inflation are, however, supposed to curb spending and thereby reduce demand in an attempt to reset the economy.
Rising prices will have a particularly significant impact on energy bills, pushing 22 million customers into “fuel stress”, from disproportionate spending of their incomes on fuel bills, and also encouraging “fuel poverty”-to ensure that people keep “eating at the cost of heating”. A supply-demand mismatch in the case of oil and gas has resulted from a fall in Liquefied Natural Gas (LNG) production, depleted stores of gas in Europe, and newly-increased demand in Asia, compounded by geopolitical tensions between Russia and Ukraine and their impact on gas pipelines. Around 86 per cent of UK households rely on gas central heating as their main source of heating, while a third of electricity is generated in gas-powered stations. The price regulator Ofgem has accordingly increased the price cap on gas and electricity bills from April 2022, meaning that the annual bill for average households will increase by £693 for consumers on default standard variable tariffs and by £708 for prepayment customers.
Increases in energy prices are mirrored by increases in fuel prices, with costlier petrol prices making the running of most cars and public transport vehicles more expensive. Food and drink prices are also being driven upward by supply chain disruptions and raised transport costs, as are costs of clothing and footwear.
Although the CPI is traditionally used to guide the setting of interest rates, the Bank of England has only belatedly raised base rates, on 3 February 2022, from 0.25 per cent to 0.5 per cent in its response to rising inflation. This will have an immediate effect on tracker mortgages that shadow the base rate, while leaving lenders to adjust standard variable rate mortgage repayments on their own terms.
Taxation is a widely-employed fiscal policy measure to combat inflation. But an added tax burden will only add to the woes of those already distressed by rising residential mortgages and rents and household costs-of-living A controversial 1.25 percentage point increase in National Insurance payments from April 2022, aimed to fund a Health and Social Care levy to address NHS backlogs and social care underfunding, will reduce the incomes of both employed and self-employed workers, and can be considered “regressive” in its disproportionate effects on lower-paid and younger members of the workforce while protecting those with earnings above a certain income threshold. The Council Tax, which depends on the valuation band of a given property and on local authority charges for that band, will go up by as much as 5 per cent for houses in bands E to H, as decided by individual local authorities according to their needs to balance their budgets. The personal tax allowance has been frozen at £12, 750, and the pension lifetime allowance at £1,073, 100 until 2026, both being best considered as ‘stealth taxes”.
The government’s prescriptions for alleviating rising costs-of-living are being described by many as insufficient. A non-repayable Council Tax rebate of £150 for each household in council tax bands A to D will potentially benefit 20.2 million households, while a £200 rebate is meant to help 28 million households with their energy bills, although this will eventually have to be repaid, in £40 instalments over five years from October 2022 onwards. Labour has proposed VAT-free domestic fuel bills and the imposition of a windfall tax on North Sea gas and oil producers, but even these measures are likely to prove insufficient.
There are many divergent opinions about what further action needs to be taken by the government, but time is not on its side as April 2002 looms ominously in the horizon and the Treasury’s rescue package seems unlikely to deliver on all fronts, and especially for low-income households.
Ashis Banerjee