Inflation is back. Last month, the consumer prices index was up 3.2% and the retail price index up 4.8%. They will go higher.
The Bank of England forecast that the CPI would reach 4 per cent this autumn, and could see the RPI hitting 6%. And this is happening at a time when we are pushed to get even 0.5% interest on a bank account. There forecast comes as the Bank of England follows the global mood in central banking which is that the surge in inflation will subside as some sort of normality returns, and that meanwhile it is more important to keep the money flowing and interest rates nailed to the floor.
There has, however, been a small shift in the wind in the past few days. Goldman Sachs has warned that rates might go up faster than the market thinks, with the first increase in Bank base rate coming next May. That is more than a year earlier than it had previously projected. The Treasury is getting seriously worried, as it should be, about the rising costs of funding the national debt. So it will announce some new rules for controlling the deficit, with the aim being to convince the markets that it really will be fiscally responsible in the future.
As for the Bank of England’s intentions, whatever they do, the harsh reality is that interest rates will be lower than inflation for the foreseeable future. It is called financial repression – holding interest rates below inflation – and it was the way the Government reduced the burden of the national debt after the Second World War, getting it down from more than 250% of GDP in 1945 to 30% by 1990. It is currently a whisker below 100%. So what should we do?
The first thing to do is not to make the mistakes that savers made in the 1950s and 1960s by holding Government stock. On 17th September 2021, 10-year gilts were yielding 0.8%. That is absurd. No sane person would buy that debt when it will give a guaranteed real loss over the next decade. So in practice most of the debt is held either by the Bank of England itself, which ‘owns’ more than 35% of the national debt, or by other financial institutions that are compelled by regulations to hold gilts.
But saying what not to do is easier than saying what you should do. In the 1950s it was clearer. You switched out of gilts into equities – the ‘cult of the equity’ was a movement pioneered by the legendary pension fund manager George Ross Goobey, who saw that the shares of solid companies were actually safer than supposedly safe government debt. Now it is tough. Everyone should use what ever tax incentives are available. If an employer will match a pension contribution, it makes complete sense to take the money and rely on compound interest to build wealth.
Protecting ourselves against inflation is not simply about investing our savings. It is also about making ourselves bulletproof in other ways. It is about making sure we have a secure flow of income. It is about making sure we have a roof over our heads. Property may not be as great an asset over the next decade as it was in the past, but we all need somewhere to live. To end on a positive note, remember this. The world’s central banks may have made a huge collective mistake in stoking up inflation. But they do not want a financial crash. They do not want mass unemployment. So they will do their utmost to keep the world economy growing – and that gives us time to sort ourselves out.
If you would to discuss the impact of inflation on your pensions and savings, please contact your financial planner here.
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