Consumers still paying the price of high inflation

The recent headline inflation figures published by the Office of National Statistics (ONS) compare prices in January to those 12 months before. On that measure, the Consumer Prices Index (CPI) inflation rate is unchanged from December at 4%, which means overall prices are higher than a year ago. However the picture is different when we look at change over one month rather than 12. Of the 12 categories of goods and services that the CPI tracks, half indicate prices that are lower than they were last month – food, clothing, furniture, transport, recreation, and restaurants and hotels are all down compared to December. Not by a lot, but it’s a start.

In this blog we will look at the many ups and very few downs of inflation over the last two years, and focus on the cumulative effect on living costs since the start of the cost of living crisis. We’ve explored previously the distributional impact of the substantial inflation that occurred more than a year ago now – that hasn’t gone away, but remains beneath the more normal looking 12 month inflation rates published today.

In our last blog on how inflation has affected the cost of living, we showed how the gap in the rate of inflation experienced by poor and rich households narrowed over 2023. When we analyse this latest data on inflation we find that this is no longer the case. The rate of inflation experienced by the lowest income households is now similar to other income quintiles.

However, it’s important to remember that what we are talking about here is 12 month inflation rates – in other words, the percentage increase in prices since January 2023. And we know that before that, in 2022, the cost of living rose significantly. So what does inflation look like if we calculate the percentage increase in prices over a longer period?

Chart 1 shows two year inflation rates to January 2024 as experienced differently across five income quintiles. We can see that the fifth of households in Scotland with the lowest incomes have seen a little over 18% inflation since January 2022, whereas the richest fifth have seen less than 14% inflation[i].

The 2023 portion of that two-year inflation is by far the smaller, and as noted above it’s not correlated with income. However at the beginning of that year households had already experienced the inflation of 2022, which hit poorer households harder. Prices rose less in 2023, but they were rising over and above the point they had reached by the end of 2022. When looking across the basket of goods for a typical household, those price increases of 2022 have not gone away, but are now ‘baked in’.

Persistent price rises

That said, when we look specifically at energy costs, the main driver of inflation in 2022, some of the increase has in fact gone away because prices have actually fallen. Chart 2 shows the CPI indices for electricity and gas (along with food, which we will come to) over the same 24 month period[ii]. It shows that energy prices peaked in early 2023, but have since come down from that high point. Nonetheless, gas costs 69% more than it did in January 2022 and electricity costs 45% more, and while current forecasts suggest prices will fall in April, the decrease is only predicted to be around 14%[iii]. So while some of the dramatic energy inflation seen in 2022 was temporary, a substantial component of it appears to be more persistent.

Because energy is used to produce all sorts of goods and services, rising energy costs also lead to rising costs in other areas, and so we might expect that falling energy costs would also be reflected in the easing of other prices. But we can see in Chart 2 that the rise in food prices – the other major component of the inflation we saw in 2022 - has continued through 2023, albeit at a slower rate. The indication today that food prices have finally started to come down is good news particularly for those low income households for which food makes up a substantial portion of weekly expenditure. But just as with energy costs, the legacy of the recent high inflation – which peaked at 19.6% for food in March last year – remains part of the costs that consumers face at the checkout.

Consumers’ response

Most households don’t just spend all the money they get each month, but to some extent – and as far as they are able to - plan for ups and downs and cut their cloth accordingly. Faced with price rises, some households will respond by spending more out of their income or savings, or perhaps using credit, to maintain their level of consumption. If costs go down, or their income rises, they can replenish savings or pay off credit.

Of course not all households are able to do this, and may have to cut back on their consumption, sometimes uncomfortably so. And if price rises are long-lasting, the ability of households to spend more may have a limit, and require those households to start cutting back on expenditure too. Long term changes in household expenditure patterns have happened in the past.  For example, expenditure on housing has doubled since the 1950s, from 9% to 18% of total household expenditure, while expenditure on food, which made up a third of household expenditure back then, has halved[iv]. We don’t yet have the data to allow us to calculate how the proportion spent on energy bills changed in 2022, but it will certainly have risen substantially.

Persistent rises in particular areas of household costs necessitate long-lasting alteration of consumption patterns. So the question of how long the effect of recent high inflation will last could have knock on implications for households financial wellbeing more broadly for years to come, particularly for those at the lower end of the income distribution for whom the impact has been greater.

Consumers’ outlook

Today’s inflation figures show that annual inflation rates continue to fall to a more normal level, but the cost of many goods and services remain significantly elevated compared to 2 years ago. This means consumers are having to either spend more of their income or savings, or cut back on their level of consumption. Inflation may be falling but for many consumers the cost of living crisis is still very real and causing significant anxiety. The most recent wave of the Scottish Government’s Public Insight Monitor, based on fieldwork in January 2024, found that 61% think the cost of living crisis will have a long term negative impact on them and their family, while only 11% feel that the cost of living crisis is easing.

While further falls in energy prices are expected in 2024, a return to the pre-crisis level is not on the cards. And as pointed out above, we are yet to see repeated negative inflation rates for other categories of goods and services in which energy prices are embedded. So it is important to remember that the increased costs that hit households more than a year ago are still with us and having an impact on consumers.

Endnotes

[i] In this analysis we used a methodology guided by the methodology used by the ONS, but not exactly in line. For example, we use figures for total household consumption expenditure from 2022 rather than 2021, and Living Costs and Food Survey figures based on the sample’s Scottish households, and from two years pooled rather than one year (in order to boost sample size in Scotland). This results in our estimated inflation rates being slightly different to official figures published by the ONS. For example, we estimate an overall inflation rate of 3.7% to January 2024, rather than the official rate of 4%. However, on the assumption that the difference in methodology will affect estimates for all households in the same way, the comparisons we draw between different household groups should still be valid. A further limitation of our analysis is that it applies one set of price changes to all households. The differences in estimated inflation rates we find are solely due to differences in the composition of household expenditure, and not due households experiencing different price changes for the same goods or services. If, for example, prices have changed differently in Scotland than in the rest of the UK, our analysis would not pick this up.

[ii] Note that the stepped form these lines take is due to the impact of the Ofgem price cap, which was set every quarter over this period.

[iii] Price cap predicted to fall by 14% in April - Cornwall Insight (cornwall-insight.com)

[iv] Celebrating 60 years of Family Spending | National Statistical (ons.gov.uk)