The real cost of living: how inflation could hurt us all

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The Independent Online

Inflation data published yesterday by the Office for National Statistics was strangely unremarkable. Consumer price inflation (CPI) in the year to December was steady at 2.1 per cent, while the "headline" rate, the Retail Price Index (RPI), which includes housing, fell,to 4 per cent, from 4.3 per cent in November.

Both rates are high by the most recent standards of the UK – CPI inflation was below 1 per cent for most of 2000 – but subdued when set in a longer historical perspective and viewed by international standards.

But the dissonance between what the official numbers tell us and what we feel in the shops, at the bus or train station and on the garage forecourt is growing acute. Almost every day seems to bring some shock. This year, young as it is, has seen fuel prices hit fresh highs, with oil at or around $100 (£51) a barrel; food bills spiralling, pushed higher by record wheat prices and the drive for biofuels; rail operators announcing double-digit increases in fares; and yesterday the energy supplier EDF – which commands the bulk of the market in London and the South – said it would raise its gas prices by 12.9 per cent and electricity bills by 7.9 per cent from Friday, due to "soaring" wholesale energy costs. Earlier this month Npower announced prices rises of 17.2 per cent for gas and 12.7 per cent for electricity that will affect than four million households. More will follow.

Research by Capital Economics suggests the middle classes are being hit much harder than the official data say, with "Middle Class RPI" running at close to 7 per cent, not least because of sharp increases in private school and university tuition fees. About the only thing that isn't going up is the value of their homes.

And the official inflation rate is set to rise. The increases in energy prices alone, for example, will add 0.75 percentage points to inflation over the next few months and the rise in food prices will be steeper still.

"Factory gate" inflation, that is before goods reach the shops, is running at a 15-year high. Fuel is up 20.5 per cent on the year, and food products by 7.4 per cent. Such "high-visibility" price rises in frequently purchased goods tend to count for more than, say, a fall in the cost of a new car or DVD player. In the case of input costs, a little further back in the economic chain, things are equally ominous; they rose by 11 per cent in the year to December. Again such increases could easily push the RPI above 5 per cent by the spring, and, with a slowing, even stagnant, economy, signal a return to the "stagflation" of the 1970s.

The new inflation also provokes fears that Britain might return to the sort of industrial strife last seen then, especially in the public sector. Then as now higher inflation is leading to higher pay demands from a Labour government trying to impose a pay policy with mixed success.

The police are once again leading discontent. Rapidly escalating inflation makes the Government's pay policy look stingier by the month; but by the same token even more crucial to Gordon Brown's survival, as to give in to public pay demands could lead to a splurge in public spending and borrowing, and thus, possibly, even higher inflation, a spiral that could prove difficult to control.

Thus, the Government's decision to award teachers a pay rise of 2.45 per cent, above the 2 per cent limit set for public workers this year, has left police officers "absolutely furious" according to the Police Federation, with the Federation's chairman, Jan Berry, condemning ministers: "This announcement blows out of the water the Government's own spin that public sector pay awards above 2 per cent will fuel inflation. How does this fit with us being told police pay was being suppressed because it's the first in the public sector pay settlements this year? What rubbish."