Inflation and how it affects us

So much seems to depend on the level of inflation. The Bank of England’s Monetary Policy Committee makes its decisions on whether to raise, drop or maintain interest rates based on where inflation stands and what they think they need to do to keep inflation on target. As they make and implement those decisions they are striving to ensure that inflation stays close to the Government’s stated target of 2%. Equally, as they make those decisions the impacts are felt by most households in the country. Base rates go up: mortgage interest rates go up. Then the ability of households to afford purchases is impacted; they buy less; demand goes down, and with it, hopefully inflation. We all feel the pain to keep inflation down.

But what are the measures of inflation, and how are they used? How can you measure your own inflation? And what are the latest factors influencing inflation?

The Consumer Price Index (CPI) is the UK’s main measure of inflation for macroeconomic purposes and is the measure the Government uses as its inflation target. It is also used for comparisons internationally where it is known as the Harmonised Index of Consumer Prices (HICP).

The Retail Price Index (RPI) has traditionally been the most familiar domestic measure of inflation in the UK. It is used for indexation of pensions, state benefits and index-linked gilts. RPI is available continuously from June 1947. It is commonly used in private contracts for uprating of maintenance payments and housing rents. It is also used for wage bargaining.

Both CPI and RPI measure the average price changes each month of a range of consumer goods and services bought in the UK. There are differences in what they cover and how they are calculated.

The RPI is a general measure of inflation based on patterns of average expenditure. It is possible to calculate your own Personal Inflation by using the National Statistics website, which enables to input your personal expenditure patterns across a wide range of items. The patterns are applied to the average price changes for the items to give you an approximate calculation of your household’s own inflation rate.

The percentage change in prices from one time to another is calculated by taking the earlier RPI from the later RPI, dividing by the earlier RPI and multiplying by a hundred.

If you need to revalue a sum of money between two dates, such as maintenance payments, then you multiply the sum of money by the later RPI and divide it by the earlier RPI.

Items used for RPI data, along with All items excluding mortgage interest payments (optionally excluding indirect taxes) and All items excluding housing data are available in a number of places including ‘Time Series Data’ and ‘RPI monthly data’ on the National Statistics website.

On the website can be found data for RPI which includes figures for before 1987, and for CPI there is data for 1947 to 2004. There are also inflation figures going back to 1750.

In June 2007 the Government’s target measure of inflation, CPI was down to 2.4% from its 2.5% level in May. Pressure downward on the annual rate for CPI cam from falling gas and electricity prices which continued their decrease in 2007, having gone up just 12 months ago. In addition there were downward effects from cigarettes, which have not seen the rises they did in 2006, and from technological equipment, where prices have been falling for digital cameras, televisions, hi-fi equipment and DVDs.

Lesser downward pulls were seen from a number of other products such as personal care appliances and products, books, newspapers, stationery and insurance premiums.

The biggest rises were seen on road transport fuels. The average petrol price for June was 1.2p per litre up on May. In June last year petrol saw a 0.9p per litre drop. Other upward effects came in furniture and furnishings, which saw a record monthly rise in June before the summer sales will kick in later in the summer.

RPI inflation went up to 4.4% in June, up from its level of 4.3% in May. Main pressures forcing it upward came from mortgage interest payments (not included in the CPI measure) as lender’s passed on the effects of the May quarter point rise in base rates if they hadn’t already done so in May itself.

There is another measure of inflation – RPIX – which is the RPI measure, but without mortgage interest payments. This was the same in June as it was in May: 3.3%

CPI is an internationally comparable measure of inflation, and as such it shows that the UK inflation rate is above average for the European Union as a whole. The provisional inflation rate for the EU 27 in June was 2.1 per cent, compared with the UK rate of 2.4 per cent for the corresponding period.