Inflation moves higher even before VAT rise to 20%

18 Jan 2011, by Alastair Hatchett Guest in Labour market

Higher petrol, diesel, gas and food prices drove inflation higher in December 2010, even before the rate of VAT was raised to 20% at the beginning of January 2011. The Retail Prices Index (RPI) rose to 4.8% in December, up from 4.7% in November. The Consumer Prices Index (CPI) rose to 3.7%, up from 3.3% in November.

This is widespread concern that these levels of inflation are much higher than forecast earlier in 2010 and are likely to be with us for much of 2011. The large rise in the CPI measure will be a blow to the Government and the Bank of England, both of whom seek to target policy on a rate of 2%.

Both the RPI and CPI will be pushed higher by the increase in VAT from 17.5% to 20% from January. The January figures will be released on 15 February 2011.

This does not bode well for economic prospects as the squeeze on incomes may mean that consumer spending will fall and hit output at a time of fragile growth.

There is also concern that CPI inflation may hit 4% in the next three months, with the possibility that the RPI may hit 5%. Most pay bargaining has resulted in pay rises of between 2% and 3% in recent months which means that the vast majority of employees are seeing their disposable incomes shrink by 2% or more. For public service workers faced with pay freezes this year the cut in real incomes is larger. And scheduled increases in National Insurance from April will further reduce pay in real terms.