Inflation: Why Your Money Loses Value
The invisible tax that affects everyone, every year
What Is Inflation?
Inflation means the general price of goods and services increases over time. Your money doesn’t literally shrink — but its purchasing powerdoes. £100 today buys less than £100 five years ago.
Real-World Example
In 2000, the average UK house price was £82,000. By 2024, it was over £280,000. A Freddo chocolate bar was 10p in 2000 — now it’s 30p. That’s inflation at work. Your grandparents aren’t exaggerating when they say everything used to be cheaper.
CPI vs RPI
| Measure | What It Includes | Used For |
|---|---|---|
| CPI | Basket of goods & services (excl. housing costs) | BoE target, benefits, State Pension |
| CPIH | CPI + owner occupiers’ housing costs | Official national statistic |
| RPI | Older, broader measure incl. mortgage interest | Student loans, some gilts, rail fares |
The Bank of England’s 2% Target
The BoE aims for CPI inflation of exactly 2%. Why 2%? A little inflation encourages spending (why buy today if it’s cheaper tomorrow?) and gives the BoE room to cut rates in a downturn. Too much inflation erodes wages. Too little (or deflation) can crash an economy.
Interest Rates as a Tool
When inflation is too high, the BoE raises interest rates. Higher rates make borrowing more expensive, so people spend less, which cools demand and brings prices down. When inflation is too low, they cut rates to encourage spending.
Key Concept
Real return = nominal return − inflation. If your savings earn 4% but inflation is 5%, your real return is −1%. You’re getting poorer in real terms, even though the number in your account is growing.
Historical UK Inflation
| Year | CPI Rate | Context |
|---|---|---|
| 1975 | 24.2% | Oil crisis |
| 1990 | 9.5% | Housing boom/bust |
| 2009 | 2.2% | Financial crisis |
| 2015 | 0.0% | Oil price crash |
| 2022 | 11.1% | Post-COVID, energy crisis |
| 2024 | ~4% | Cooling but above target |
How to Protect Against Inflation
- Equities (shares) — companies can raise prices, so profits and share prices tend to keep pace with inflation over time
- Property — rents and house prices historically rise with inflation
- Index-linked gilts — UK government bonds where payments are adjusted for inflation
- Commodities — gold, oil, and other physical goods often rise with inflation
- Salary negotiation — if your pay doesn’t rise with inflation, you’re taking a real pay cut
Warning
Cash savings are the biggest victim of inflation. If you keep £50,000 in a current account earning 0% while inflation is 3%, you’re losing £1,500 in purchasing power every year. Keep your emergency fund in cash, but invest the rest.