Money Insider: Savers hit by low rates and high inflation

 

There's been plenty for borrowers to cheer about in recent weeks with mortgage rates tumbling across the board and unsecured loan rates falling to their lowest for more than six years, but for savers it's the complete opposite – their situation has become absolutely dire.

Not only are people seeing their interest income diminish before their eyes as savings rates plummet, but to rub salt in to the wound, the inflation figures released this week reveal a sharp increase in the cost of living.

It's no real surprise to hear that inflation is on the up, you've only got to look at the fuel prices being charged on the forecourts as well as the week-on-week increase in the cost of your weekly food shop – and that's before the new gas and electricity price hikes kick in.

The Government and the Bank of England's monetary policy committee have ignored the plight of savers for over four years now, trying to keep rates low in the hope it will enable borrowers to spend more and keep the economy from grinding to a halt.

There's also a view that low mortgage rates will keep people in their homes and limit the number of defaults and repossessions.

The trouble is the money that borrowers are saving on lower monthly mortgage repayments has been swallowed up by the increased cost of living, and if and when interest rates do start to rise, then the affordability issues will start to surface and it won't be pretty.

With the Consumer Price Index (CPI) inflation measure currently hitting 2.7 per cent, it means basic rate taxpayers need to earn a gross rate of 3.375 per cent to maintain the spending power of their savings.

Three or four months ago that wouldn't have been an issue, but since the Funding for Lending scheme was introduced on 1 August, savings rates have fallen off a cliff.

Lenders are no longer relying on cash from savers, hence the reason why best-buy, instant-access accounts are only paying around 2.5 per cent, and in most cases if you want to earn more than the 3.375 per cent it means locking your money away for at least four years.

Despite protestations from MPs and consumer groups, the grim reality is this isn't going to get better anytime soon. In fact, many experts predict interest rates won't pick up for at least another 12-18 months, and as for inflation, the recent rise in fuel and energy prices could keep CPI well above the official 2 per cent target for much of 2013.

So as a saver, what should you do?

It depends on your personal circumstances, but if you're building a savings pot by putting money aside on a weekly or monthly basis, then unless you've got some expensive credit card or overdraft debt to clear, the message is to carry on saving.

While the icing on the cake, your interest, may be wafer thin at the moment, at least your capital will continue to grow and when interest rates eventually pick up, you'll be in a better position to benefit. In the meantime, keep a check on interest rates to get the best return you can.

If you're no longer in a position to add to your savings and rely on them to supplement your income, it's still worth checking the rates and switching your money to squeeze the most you can from the best-buy deals.

There are still dozens of savings accounts paying 0.1 per cent or less, and if your money is sitting in one of these it's time to move it elsewhere as you can easily earn 25 times as much.

If you want instant access to your savings, the best rate you can get is 2.52 per cent from West Bromwich Building Society and 2.5 per cent from Triodos Bank. Both these accounts include an introductory bonus for the first 12 months, so you'll need to switch again this time next year, but at least you're getting the top rate on your cash in the meantime.

If you can manage without access to some of your cash then it's possible to earn a fixed rate of 2.75 per cent for one year or 3.10 per cent for three years, both on offer from Tesco Bank and with the option of receiving your interest monthly.

No matter how low rates are, it's important not to give up on the savings habit – it will always be a smart financial strategy to put some money aside each month, no matter how little interest you receive.

Andrew Hagger is an independent personal finance analyst from www.moneycomms.co.uk

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