Britain’s cost of living crisis got worse before it even began
The U.K. was bracing for its biggest squeeze on living standards in decades even before Russia invaded Ukraine. The impact of the war is now threatening to deepen a crisis for the poorest households and pull millions more into financial trouble.
A spike in the price of oil has already pushed petrol and diesel prices to a record. Economists warn that further pressure on food and energy prices could mean inflation hits double digits later this year.
With domestic energy prices and taxes already rising next month and commodity markets highly volatile, pressure is growing on Chancellor of the Exchequer Rishi Sunak to ease the pain when he unveils a springtime mini-budget on March 23.
Before then, the Bank of England is widely expected to announce a third consecutive interest-rate rise when it meets on Thursday. Bloomberg Economics forecasts unanimous backing for a 25 basis-point rise, pushing rates up to 0.75%, in a bid to control surging price growth.
Without help from Sunak, the proportion of children living in absolute poverty is set to be higher in 2026-27 than it was at the start of the decade, the Resolution Foundation warns, something it said has “never seen before in modern Britain.”
But the problems for Sunak—and his boss, Prime Minister Boris Johnson—stretch beyond the lowest-paid Britons. Accelerating inflation now means that families who rarely need to worry about the cost of living are also being dragged into difficulty.
Neither rich enough to dismiss the looming crisis, nor poor enough to be the first in line for government support, Britain’s middle earners are election-swingers: they ushered in Tony Blair’s Labour Party in 1997 and effectively ejected his successor, Gordon Brown, in 2010, heralding 12 years of Tory rule.
With the next election not due until late 2024, both main parties will be vying for voters who have gone through a cost-of-living crisis in the wake of Covid-19 and Brexit.
Food and petrol prices rise
The squeeze is already having an impact. At food banks across Britain, donors are becoming users, according to Sabine Goodwin, who runs the Independent Food Aid Network.
“There’s a growing cohort of people facing a choice between eating or heating who might not have even considered having to access our inadequate social security system before now,” she said.
In supermarkets, Britons are likely to face higher bread prices because Russia and Ukraine make up almost a third of global exports of wheat, the price of which has risen by more than 50%. Yael Selfin, chief economist at KPMG, estimates that this could add more than a percentage point to U.K. inflation.
At the pump, petrol prices rose at the fastest pace in almost 13 years in the week to March 7 as the war in Ukraine sent fuel prices to record highs. Official data show that richer households tend to spend more on transport.
At home, surges in wholesale natural gas and electricity markets mean that a 54% increase in the energy price cap set by the official regulator Ofgem, planned for April, could be followed by another sharp rise in October.
National Energy Action warns that would put unprecedented pressure on Britons’ ability to pay for heating. “This could lead to households running up huge debt or even self-disconnecting,” said Peter Smith, the charity’s director of policy and advocacy.
The squeeze is underscored by the latest Bloomberg survey for the U.K., carried out between March 4 and March 10., which saw economists cut their growth forecasts for the rest of 2022.
On inflation, Bloomberg Economics’ senior U.K. economist Dan Hanson says price growth could hit 10% in October. With the 2% target for inflation seen as out of reach, economists see the Bank of England delivering three more 25 basis-point rate increases this year. Markets are more hawkish, pricing in a rate of around 2% by the end of the year.
Taxes are going up
On top of surging price growth, middle and higher earners will also suffer most from a looming rise in the rate of National Insurance, a payroll tax.
The burden on the poorest is forecast to ease, because the threshold at which workers pay the tax is rising. But people earning anything more than 15,000 pounds ($20,000) — well below the median annual salary of 25,000 pounds — will face higher deductions.
“The net effect is that it may well be middle-income households who are hit hardest in the coming months,” especially if Sunak targets any additional support only at the lowest paid, said Julian Jessop, a fellow at the Institute for Economic Affairs, a free-market think tank.
Jessop noted that lower earners will benefit most from a November cut in the rate at which benefits are reduced as income from work increases, as well as a rise in the national living wage planned for April.
Without action from Sunak, “many on moderate incomes will face the biggest hit to their living standards since at least the financial crisis,” Paul Johnson, director of the Institute for Fiscal Studies, said last week.
Richer households do have other ways to cushion the blow. Workers on high incomes managed to save significantly more than others during the pandemic. Polling by YouGov, analyzed by the Resolution Foundation, shows that 47% of the highest earners increased their savings from February 2020 to May 2021, compared to just 12% of the lowest earners.
ven so, rising interest rates are already squeezing U.K. homeowners and borrowers, with richer households more likely to be indebted.
Analysis by Oxford Economics and Hargreaves Lansdown suggests that the richest fifth of the population are more exposed to variable rates, meaning they will struggle twice as much as the poorest fifth to pay their debts.
Against that backdrop, Sunak’s rush to repair the U.K. balance sheet — announced in October with an eye on life after the pandemic — is “unnecessary,” according to Fabrice Montagne, chief U.K. economist at Barclays Plc. That’s especially true when inflation has overshot forecasts for four months in a row, swallowing wage growth.
“The fiscal squeeze this year may prove unsustainable and it is tilted toward the squeezed middle,” he said. “The government can afford to spend a bit more.”
With Johnson preoccupied by Ukraine, any fiscal response will fall on Sunak’s shoulders. His decision will impact millions of Britons, right across the U.K.’s stark income divides.
–With assistance from Andrew Atkinson.
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