British pockets getting shallower

UK disposable income could see its biggest fall since 1921 this year. A good time to hike interest rates?

by Dave Waller
Last Updated: 16 May 2011
After a sunny weekend, straight back to the gloom: Britain's household budgets are suffering their biggest squeeze in 90 years, according to the Centre for Economics and Business Research. It reckons 2011 could see our disposable income shrink at the fastest (peacetime) rate since the less-than-affluent days of 1921 – thanks to soaring inflation and pitiful pay rises.

According to the number bods at the CEBR, household disposable income will fall by 2% this year. That’s more than double last year's fall of 0.8% - and the biggest drop since between 1919 and 1921, when the world was plunged into recession following the devastation of the First World War. Which is not terribly reassuring.

The CEBR reckons inflation will hit an average 3.9% in 2011, the highest level since 1992, as January's increase in VAT from 17.5% to 20% and the rising cost of commodities keeps jacking up prices. This would be easier to manage if salaries were going up too - but the CEBR reckons they’ll only edge up by 1.9%. So what does that mean in practice? Well, according to the CEBR, the average British family will have £910 less to spend this year than it did in 2009.

It’s against this backdrop that outgoing Bank of England Monetary Policy Committee member Andrew Sentance has told Sky News that interest rates will have to 'quadruple in a year'. The current ultra-low rate of 0.5% has got to change to avoid a ‘more difficult situation,’ Sentance says. His argument is that rates have been kept at record lows to protect the weak economy; but now that the UK is starting to get back on its feet, and we're facing inflationary pressures from the world economy, ‘we need to begin to adjust interest rates in a gradual way in order to get back into a more normal state’.

Coming from Sentance, this is hardly surprising - he's the most hawkish member of the MPC, and has been arguing for higher rates for the last year. It's also true that inflationary pressures don't seem to be subsiding; for example, the UN Food and Agriculture Organization said last month said that food prices were likely to carry on climbing all year in Britain.

However, we suspect lots of people will disagree with his relatively upbeat analysis of the current state of the UK economy. And at a time when rising prices are putting the squeeze on take-home pay, putting up rates now - which will mean higher interest payments for millions of homeowners - might well make a difficult situation even worse.

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