The UK’s consumer price (CPI) inflation rose to 5.4% in December, and is set to climb even higher as more prices jump in early 2022. Household energy bills could increase as much as 50% when the price cap is adjusted in April. Regulated rail fares will go up 3.8% in March, and food retailers will soon have to decide how far to pass on the steep wholesale price rises of basics including bread and milk.

Residential rents went up 4.6% in the year to last September, reflecting the boom in house prices, whose annual rise had reached 13.2% by mid-2021. For owner-occupiers, December’s housing-adjusted CPI rise was slightly less steep, at 4.8% year-on-year. But for the two-thirds of home owners with mortgages, costs are set to climb after the Bank of England began raising interest rates in December, under pressure to defend its 2% inflation target.

Vulnerable groups

Price rises put particular stress on up to 3 million people who were already battling to stay afloat between paydays, without the savings to absorb any sudden expense. Even a short spike in energy bills could be disastrous for lower-income households, whose energy bills are edging towards 20% of their income after housing costs, rising to 50% for the most vulnerable.

Younger people are especially hard-hit, according to a Royal Society of Arts/Health Foundation survey, with 57% of 22-24-year-olds reporting their finances under strain. To narrow the gap between young and old fortunes, the government plans to suspend state pensioners’ ‘triple lock’ arrangement, which would otherwise raise pensions in line with inflation even if work incomes are sinking. But after successive stock-market and property booms that mainly benefited the generation now retired, tougher times may loom for those who can’t access the fast-growing Bank of Mum and Dad.

Tax bills also inflating

Having promised lower-paid workers a rise on its way to re-election in 2019, the government is trying to ensure their pay at least keeps pace with prices. The National Living Wage will rise 6.6% (to £9.50/hour) from 1 April, and 9.8% (to £9.18) for those aged 21-22. But the downward drift in real incomes since the 2008 financial crisis will be hard to reverse this year, as the Chancellor tries to claw back some of the billions spent on household and business support in the pandemic.

National Insurance contributions are to rise 1.25% from April. Less visibly, but more painfully, the freezing of tax thresholds could, by 2026, push up to 1 million people into a higher tax bracket - and leave 1.5m paying basic-rate income tax for the first time - even though their pay hasn’t risen in real terms. Many on middle incomes will therefore face a squeeze, as well as those on lowest pay. Below the tax threshold, many households are still adjusting to October’s ending of the £20/ week Universal Credit uplift.

The UK isn’t suffering alone. US inflation reached 7% in December, the highest since 1982. The Eurozone’s was 5%, with Germany’s at 5.7%. All economies have been hit by a global surge in energy costs. The average oil price rose 69% across 2021, climbing to its highest for seven years  in January 2022 from historic lows less than 18 months ago.

European electricity prices are being further inflated by the closure of old nuclear facilities, and difficulty replacing them. Russia may be exploiting EU reliance on its gas by squeezing supplies, as it seeks to end objections to its newly built pipeline and eyes reconquest of Ukraine. As well as raising transport fares, pricier fossil fuels drive food-price inflation by raising costs of fertiliser and animal feed will add to.

The sense that much of the current inflation has global causes, beyond our control, is a reason why the Bank of England has not acted more aggressively to haul inflation back down to 2%. External conditions loom large in the explanatory letter its Governor was obliged to write after November’s overshoot.

But domestic events may have compounded the rise in UK costs. The pound has depreciated by 10-15% in the five years since the Brexit referendum vote. This puts upward pressure on everything the country imports, including half its gas and 45% of its food. New trade frictions due to Brexit have added to import prices – though some domestically made items may fall in price, as producers sell at home what they can no longer supply to the EU.

Spectre of stagflation

Inflation could subside quickly if, as some economists believe, it’s mainly caused by temporary shortages as spending re-adjusts from pandemic distortions. Prices of road fuel and non-supermarket food got a boost as the economy re-opened because supplies had run down as work and consumption shifted into the home. They may fall back once normal patterns are restored. The upwave might persist a little longer if households quickly spend the £190bn lockdown savings they had accumulated by mid-2021, but much of this is likely to be earmarked for non-essential items that are not in short supply.

This could, however, also be the start of a longer-lasting inflation – caused by too much money chasing too few goods, even with enough drivers to deliver them. The years since the 2008/2009 Global Financial Crisis and recession have brought unprecedented monetary expansion, in the form of near-zero interest rates and purchases of debt by the Bank of England (alongside other central banks). A tightening of budgets during ‘austerity’ had only partially offset this when, in 2020, the pandemic pushed government deficits back up to record peacetime levels.

With no political appetite for sharp fiscal or monetary tightening, aggregate demand may have been ramped-up significantly faster than supply. This only returned to pre-pandemic levels in November 2021, and may have stalled again as the fast-spreading Omicron strain sent more employees into winter isolation. Excess demand inevitably means rising prices or empty shelves. And short-lived jumps in oil and gas prices, which caused short bursts of inflation in the past, may be giving way to a prolonged rise in fossil fuel costs that will keep pushing prices higher, until a full range of renewable substitutes is in place.

Wages are also rising, with unemployment back down to 4.2% and Brexit explicitly intended to reduce cheap hiring from the EU. With no immediate way to slow the rise in prices, the government hopes it will soon be matched by rising pay, especially lower down the scale. But that combination fifty years ago, quickly leapfrogged into a wage-price spiral, heralding a decade of stagnation. Without the social safety-net that then protected households from absolute poverty, even a short phase of rising living costs will cause long-lasting trouble.