84. Why inflation hits the poorest hardest

0:10Hello and welcome to The Rest is Money with me, Robert Paxton. And me, Steph McGovern. So today we are going to go through some of your questions, which we always love doing. You ask the best questions and it normally teases out that Steph and I definitely don't agree on everything. But this is inflation day. And one of the big stories of all our lives over the last couple of years has been the soaring cost of living. and today's inflation figures are a bit of a paradox because although inflation has risen a bit again it hasn't risen as much as the bank of england and economists feared it was going to rise and that is good news for a whole series of reasons we'll explain but steph if could you just talk us through the numbers as you say uk inflation has risen a bit less than people were expecting it was 2.2 percent that it's gone up by i mean economists didn't have it much higher than that.

1:08They had it at about 2.3 % when they were pulled by Reuters. But of course, the important point about this is it's still above the Bank of England's target of 2%, but a hell of a lot less than where we were in October 2022. And do you remember it was over 11 % inflation? So, you know, it would have been offered 2.2 % back then. We would have been absolutely buzzing. So this is in the right territory. It's definitely in the right territory. I mean, we should just remind people that although the target is 2%, the sort of definition of Bank of England failure is if it's a half a percentage point above or below that 2%.

1:51So if it gets to 2.5 or 1.5, the governor of the Bank of England has to write a letter to the chancellor saying, I'm really sorry, I'm really sorry, we've got it wrong. And this is what we're going to do to try and fix things at 2.2%. He doesn't have to write that humiliating letter. And the other reason, of course, it all matters is because interest rates were pushed up to those really painful levels, 5.25 % in the current cycle of interest rate rises for bank rate. That's the rate of interest the bank of income and charges. That was brought down by a quarter of a percentage point to 5 % at the last meeting of the Bank of England's Monetary Policy Committee.

2:38So what everybody's interested in, what does this inflation figure mean for the interest rate that is going to be set by the Bank of England? Yeah. And given it's a bit less than what they were expecting, that potentially could mean we might see another rate cut. And by the way, do you remember back in the day, I remember when we were working together on the BBC on the news, whenever that letter had to happen to the chancellor from the Bank of England, whenever they, as you say, missed that target and would have to write this kind of humiliating letter about why, we'd always try and graphicise it and do like some kind of ridiculous setup of someone's hand writing a letter, you know, filmed with slightly shadowy light.

3:22So it obviously wasn't the filming of the Bank of England governor writing it. It'd be like someone in the office. It is the great challenge of covering business and economics on television is these are not picture rich stories. And even the people you interview or one used to interview in the old days, they were usually rather boring men. And so, you know, we were always struggling to make these stories interesting in a visual sense. The thing that used to drive me up the wall when I was covering this stuff for the BBC is on the day that the Bank of England announced something, they would always insist that I stand outside the Bank of England doing my live broadcast as though anybody in the wider world thought that I just literally stepped outside from a chat with a, you know, it was, you know, the conventions.

4:22are so silly. I mean, I could have literally been anywhere in the world doing that live broadcast because the information you just extracted from talking to people on the phone. But no, you had to. It didn't matter whether it was pouring with rain or it was snowing. I had to stand outside the Blooming Bank of England. Yeah, and I'd be stood there with you. The other thing about it is, do you know what I saw on the news the other day, which really made me laugh, is on the BBC it was a graphic that we'd used on one of our pieces no you're joking they were reusing a graphic from more than 15 years ago yeah so do you remember that we do you remember when we like you say it was really hard to turn economics into a television piece and so we'd created this shot of the city with money raining down on it that was like one of our really standard old shots from 100 years ago.

5:18And I saw it on the telly the other day on the BBC. And I was like, I think that's someone who's just gone into the archive and gone, picture for, you know, business story or whatever. And that's come up from forever long ago. But there we are. Because truthfully, that is definitely the sort of thing you ask AI to generate something like that. They'll do it in two minutes and almost certainly do something slightly more stylish than we did all those years ago. But anyway, the important point, just to get back to the actual story, is with inflation slightly lower than essentially economists were fearing.

5:53And I think we should actually put that into the context of the last two, three years, which is this is unusual. Actually, over the last two or three years, the Bank of England's forecasts of inflation have tended to be really badly wrong. In fact, we talked a lot about the failures of the Bank of England when we interviewed Swati Dhingra from the Monetary Policy Committee of the Bank of England. You know, for the first time in ages, this is better news than the Bank of England was expecting. Now, one of the things that's quite interesting is, as you know, investors then bet on what this means for interest rates.

6:26And now, essentially, what's being priced in markets on the basis of these investors' bets is that we will now get, they think, 100 % definitely, two more interest rate cuts of a quarter of a percentage point before the end of the year, which would mean that the bank rate set by the Bank of England would come down to 4.5%. And that would mean a bit of a fall in what people pay for their mortgages as they have to reset those fixed rate mortgages. So this looks like better news. It's possible also, I mean, up to now, no analysts had been expecting this. It's possible also that we could even get another interest rate cut in September.

7:07Yeah, and we've talked when we were chatting to Swati Dingra and various other people we've had on as well, Karen Ward from JP Morgan, about where we think it's going to settle. And it's about three and a half percent in the longer term that various people we've chatted to were suggesting it will probably settle at. But, you know, that is definitely a movable feast as well. It is. But I mean, it is important for people to understand that it's very unlikely we're going to get back to a world where the bank rate, the rate set by the Bank of England is close to nought. And so the kind of mortgage rates that people were getting only, you know, three years ago, they are unlikely to be available.

7:46If the so-called natural rate of interest settles at three, three and a half, four percent, you know, that means the cost of borrowing will be higher for a bit. But there is another side to it, which is we also want people to save more. And if the rate of interest goes up on savings, you know, that's not a bad thing. Yeah. Here's a story for you, though. So the rate cut that was announced within maybe an hour or so of that happening, I had an email saying my savings rate was going to be cut. Like it happened so quickly. Have I heard from my mortgage provider yet about it? Of course I haven't. But you're absolutely right.

8:26This is one of the really frustrating things about the way that financial services companies, particularly banks, operate. And there is a lot of evidence in the past that they were far quicker to cut savings rates than they were to cut the rate they charge borrowers. And there is a fair amount of evidence that the banks have got a bit better at not ripping us off by widening what's called the interest rate spread, which is the difference between what they charge savers and borrowers. And that difference between what they charge savers and borrowers is effectively their profit. And in the old days, they used to maximize that spread whenever there was a change in interest rates.

9:10I think there is a bit more competition than there used to be. and there's less of a ripoff going on than there used to be. I just thought it was also, though, worth, since we're talking about inflation, you and I talked about in sort of impressionistic terms a lot, but has now been proven to be the case by the Institute for Fiscal Studies. They have done a really interesting study, which has just been published, about the different rates of interest on different goods, and in particular looking at the food market. And what they have established is that inflation was significantly higher for the low-cost food products that people on low incomes depend upon most.

10:04and therefore there's a double whammy if you're on a low income as a result of inflation. On the one hand, if you're on a low income, a much greater proportion of your income goes on the basics of life. So it goes on paying for power and it goes on paying for food. You have very little scope to save and you have very little scope to buy luxury items. So when inflation is most rampant in energy or food, that really squeezes your living standards in a really horrible and pernicious way. But it's worse than that, the IFS has established. The inflation in higher priced goods that comfortable middle class people tend to buy was lower than inflation in the goods that are priced more competitively by the supermarkets.

11:01It's what they're calling cheapflation. And it might just be worth actually showing those numbers. And in terms of what this boils down to with numbers, they're saying that this cheapflation, as they're calling it, meant that the people in the households who have a lot less money and are spending more on the cheaper, what you would deem as the kind of cheaper goods, had inflation rates of around 5.6 % higher than those in what they call the top quarter. So this is£100 extra on bills for people who are essentially poorer, buying the stuff at the bottom end of the scale where prices have gone up more than they have for people buying the more expensive stuff.

11:50Which sounds a bit mad, but it basically shows, doesn't it, that it's been the poorer people how to hit by inflation and the cost of living prices. And just listen to this, right? Right. This is from the Institute of Fiscal Studies, which people on the whole regard as the sort of gold standard of this kind of analysis. They're saying the grocery products sold that were initially among the cheapest 10 percent in each spending category. In other words, the cheapest types of pasta or butter or milk and so on. They rose in price by 36.2 percent compared to 15.8 percent. So that's 20 percentage points more for the cheaper products compared to 15.8 % for products that were initially in the 10 % of most expensive products.

12:38So if you're a Waitrose shopper, right, you know, then you were suffering much lower inflation than if you were essentially buying the value products from the likes of, let's say, Tesco or Lidl or Aldi. And that's awful. Yeah, it is. It's deeply unfair. And actually, we've had various questions which centre around this kind of inequality and what can be done about it. And whether, for example, monetary policy, you know, what the Bank of England does by trying to control inflation with interest rates actually works. Because does it just hit the poorest rather than being more equal and hitting everyone across the economy?

13:24So, for example, Harry's written a question in about this. so Harry Gitton says is monetary policy any more effective than general taxation the current system appears to act regressively and the example Harry's using here is he's basically saying people who are younger will be paying higher mortgages and obviously when you're trying to control inflation with interest rates you're hitting people directly who have mortgages you're also hitting people on rentals because the landlords are likely to pass on those mortgage cost increases. So what Harry is saying is, hang on a minute, is this not just hitting the poorest or the youngest hardest when you use interest rates to control inflation?

14:08Would it not be better, he is saying, to have a flat annual tax, which could be then pumped back into public services rather than, he says, lining big banks' profits? I can totally see Harry's point there because I do have a beef with monetary policy and I always have because the idea of using interest rates to control how much prices are going up by when let's face it for example energy costs have been the big driver of inflation over the last few years not how much we are spending in the shops so by trying to stop people spending by making their housing costs more expensive doesn't necessarily bring down prices in the way that monetary policy wants it to or says it should but I don't know what the alternative is if you don't have monetary policy and you try and do it with tax then again who do you tax because if you put it on VAT or something like that which is directly on products then you are making products more expensive so you're adding to inflation again how do you do it okay so much to unpack I know sorry I went on one then I don't know where to start territory can I tell I'll tell you what my idea is then for you.

15:17So one of my wacky ideas, which I can tell from the tone of your voice, you're dead excited about. Why do we have to control inflation? Why don't we scrap the Bank of England trying to control inflation and instead we leave it to run its own course? Right. So there's a lot to talk about there. What was the name of the chap who asked the question? Harry. Harry. So the bit of his question that I simply don't understand is I don't really understand his flat tax point. But there's a general point here about trying to control economic conditions and inflation using variations in tax, variations in public spending, which we learn from bitter experience in the 60s and 70s leads to an enormous amount of instability.

16:11So arguably, the world's most influential, important economist of all time, Keynes, introduced us to the idea that governments do have the ability to influence economic conditions. So if you get a slowdown and unemployment is rising, governments can use fiscal policy to counteract. So for example, if the economy is slowing down, you can spend more or cut taxes to boost demand and get things going again. And that was a really, really important insight. But one of the things we learned in the 70s and 80s is that if you make those changes too often in a non-strategic way. You make it very difficult for businesses and households to plan and that can lead to lower investment.

17:16And also in the absence of planning, you can make it particularly difficult for all sorts of prices to be set in a rational way. And for example, what people want for their wages is one kind of price, as well as pricing goods as they leave the factory. So we moved into a world where we tried to have less very, very active, very significant demand management in the short term and thought much more about the underlying needs of the economy and separately in a world where the interest rate was not set by the central bank but was set by government too often the interest rate was not set in a way that was most appropriate for inflation but it was set by the short-term political needs of a government that wanted to win the next election.

18:22And therefore, sometimes painful decisions were not taken in the way that they should have been. Now I'm going to get on to your point, which is could you just abolish the Bank of England? Yeah, I mean, look, technically, we could move into a cryptocurrency world and just decide that a national currency didn't matter. But where you have a national currency, you've got to have an organization that is responsible for creating the currency and managing the currency's value. And the price of a currency is the interest rate. OK. And so effectively, what you are talking about, and there are basically libertarians who take the view that the currency should effectively now be a global Bitcoin currency and there should be no national currencies.

19:16But in a world of national currencies, you've got to have a central bank, right? And if you've got a central bank, it's a central bank that's going to be setting the interest rate. And once you're setting the interest rate, the interest rate is a big determinant of what the inflation rate is going to be. But that's where I disagree, because I think the point being is, if inflation was always based on spending, then of course if you change how much money people have got by changing their interest rates and how much they're paying for their mortgage and how much money they're making from their savings and things like that it will change spending but inflation as we've seen today the figures say partly why it's up a bit is because energy costs fell less than they did a year ago so therefore it's energy costs that's not about how much people are spending at home and how much that it's about global economics it's about geopolitics it's about a million things but it's not about how much people are spending domestically and I think the problem is as Harry rightly points out it's the inequality that then comes from it because those however what is it now it's something like is it about a third of the population own their home outright without a mortgage are totally not impacted by changes in interest rates apart from on their potentially savings, but not in other ways.

20:42No, they are. They are affected because look, whether the outcome of either higher or lower interest rates is fair in terms of who shoulders the greatest costs is a very important issue. Of course, that's right. You know, my view would be if there's a particular group that are particularly badly harmed by an interest rate rise, then it is for government to try and correct that injustice, which they can do through the benefit system or through the tax system. But it is not the case, for example, that if you get a rise in interest rates that leads to the economy slowing down and unemployment rising, that only one small group of people are affected by that.

21:31You know, even if you own your house outright in a slowing economy, the value of your house will certainly not rise as much as it would have done otherwise and probably will fall. And so the point about using the interest rate, the so-called monetary policy tool, is that it does ripple through the economy in a completely comprehensive kind of way. Now, you know, as I say, some people get hurt more than others. But it is then, if you think that the impact of that is too much for some groups, it is the role of government to correct that injustice, which you can do through the benefit system, through the tax system.

22:08Yeah, I know. And I know it's way more complicated. And it's like, what's the alternative if we didn't do that? But I guess it's just the fact it does feel like it's a hard pill to take when it's often the poorest in society who are hit by these decisions. Well, I would argue that actually it's not the poorest in society that are hit by a rise in interest rates because unfortunately the poorest in society, those on lowest incomes, can't afford to buy their own homes. No, but they'll be renting, won't they? No, because they'll be renting and renting is affected by the cost. And even if it's a welfare, you know, if they're getting benefits to rent, it's about supply and demand, isn't it, of homes and everything else.

22:51So it does filter down. And I agree with you. I don't think you can blame the Bank of England for there not being enough houses in this country. No, you can't. No, but then that comes back to Harry's point about, and actually it leads neatly on to the next question, which is to do with housing costs and wages and things like that. So maybe we should have a quick break. We should have a quick break. But what do you think he meant by his flat tax thing? Because I really don't know what Harry meant. I think he just means is there not a way of thinking when inflation goes up, right, okay, it's above the 2 % target or dramatically above, we need to just bring in some type of tax on something where everyone has to give up some of their disposable income in order to reduce demand on products and therefore bring prices down.

23:35But think about the practicalities of that. Yes, of course. It's impossible. I mean, the admin nightmare of putting up taxes to control inflation, It's not like, the thing about an interest rate is you cut it, the price of borrowing goes down really quite quickly. There's a lot of admin involved in that though as well. There's a lot of admin. Much less though. I mean, the point about the so-called monetary policy tool is it has a much more general effect across the economy. It affects pretty much everybody. It does affect people differentially. Not everybody is affected the same way, but it does affect pretty much everybody.

24:10and it happens rapidly and includes way less admin hassle than changing taxes. There is a question linked to that, I think. But let's have a quick break. Let's do that.

24:40I have. Investing bürgt Verlustrisiken.

24:46Welcome back to The Rest is Money with me, Robert Perston. And me, Steph McGovern. So we're deep in debate here and there's another question that I think will take us further into that and it's to do with business' role in all of this. It comes from Chris Moore and first of all, he gives me a nice compliment about hearing me talk about my business stuff, my slime business amongst many. Anyway, it he says we're passionate about social equality and equality in all areas so he's talking about himself and his partner it seems to me that employers have been put under so much pressure to counteract the failed housing policies of the government now this is quite a long question so I'm just going to paraphrase it because the the point that Chris is making here is they've got a business you know they're having to constantly put up wages to meet the kind of living wage demands which is understandable we've talked about businesses doing that but it does put a lot of pressure on them they're saying do you agree that high rental costs are damaging the economy and what should be done about it in other words businesses are the ones who have to increase here to meet the living wage demands so inevitably they are paying for the rising housing costs and is that what is damaging the economy look we've had decades now of you know not enough new housing being created in this country.

26:07One of the things that this government is committed to is reforming planning restrictions to increase the rate of house building. They've got this target of one and a half million homes in the course of the parliament. Actually, most analysts would say one and a half million is significantly fewer houses than this country actually needs, but it is significantly more than has been built over a five-year period. I think the last time we were anywhere near anything like that level of house building is the 1970s. I think that the question is just a different way of showing how the costs of inadequate supply of affordable housing affects every aspect of the economy.

26:52Did you say his name was Chris? I mean, he's saying, you know, he's saying he feels under a sort of moral pressure to do more to raise the wages of his people because they can't afford, whether it's rent or mortgages. But as I say, it's just another way of looking at one of the sort of fundamental structural flaws in Britain these days, which is not enough affordable homes. Yeah. And just to put some numbers on how much we're talking about in terms of rental costs, they've gone up by about 10 % in the last year. Obviously, geographically, this changes. It's nearly as high as 11 % in London. The average rent in London now is over two grand a month.

27:29Next expensive place outside of London is Bristol at£1 ,700 a month. I know you'll all be keen to know how much it is in Middlesbrough. It's about£600 a month. But I remember when it was£300, you know, and that wasn't that long ago. So there's been incredible rises in rental costs. And at the same time, obviously, the increase in mortgage costs has pushed landlords out of the market. And so the number of rental properties has fallen and all of this weighs heavy on the costs for people who are living in these properties or are trying to rent or are trying to get on the housing ladder. So, yeah, I think the key is that you've just said, Robert, it's about supply, isn't it?

28:09We need hundreds of thousands more homes to be built every year to cope with the demand. That hasn't been happening. The government need to sort it out. I mean, one of the things that I find slightly both confusing and depressing. So we were talking last week to Karen Ward, the economist from JP Morgan, about the pressures that the government feels under when it comes to borrowing more money for productive purposes. And I think she used the phrase that what you want is sensible borrowing. Now, when you've got a debt-to-GDP ratio, which we have about 100%, that's the value of the public sector debt is equal to the national income.

28:50It is sort of understandable that the government feels under pressure not to significantly increase that level of debt to fund day-to-day services. But as we pointed out repeatedly on this podcast, any investment that is made that increases the growth rate of the economy and therefore, in a sense, the value of Britain looks like sensible borrowing. And one form of sensible borrowing would be to build more houses, particularly more social housing. And one of the things that I do find slightly surprising about the current government's plans is it is relying almost completely at the moment on the private sector to build these new homes, some of which will be affordable and some of which will definitely not be low price housing.

29:47One of the catastrophic failures has been to allow a massive deterioration both in the number of properties available in the social sector and of course we also know about the scandal of essentially slums now in the social housing sector. I would very passionately make the case that the government should have the guts to borrow more to fund new social housing because it will increase the growth rate. Because essentially, if people are living in better conditions, that will certainly be better for their general morale. But secondly, if you create a large social housing stock, you also get more physical mobility so people can move to other areas to actually pick up jobs if there's affordable housing in those areas.

30:41And indeed, if you're borrowing to invest in housing, you've got a good asset underpinning that debt. So it seems to me that the government is being way too cautious in not increasing the amount that it is prepared to borrow or indeed to allow local authorities to borrow to fund significantly more rental accommodation, either council housing or other forms of social housing. It is crazy to me that they are not adopting this agenda. So in answer to Chris's question, it's yeah, you know, we do agree that high rental costs are bad for the economy. And that's one of the suggestions around what you should do about it is invest in building more social housing.

31:26And that could make a big difference. Right. Thank you very much for all of your questions. If you want to send any more in, it's restismoneyatgmail.com for the email. Or you can send them through our social media pages. Just search The Rest Is Money or however you get your podcast, basically. but that's it from us bye bye all the best bye bye