Tuesday, 12 February 2008

Inflation and Recession

In December, I woke to the news that food prices have inflated by over 5% in 2007 (6.6% per this article at the BBC) and that wheat has topped $10 a bushel for the first time ever. Whilst my cousins who farm on the plains of northern Victoria may be happy with the price for their wheat, the runes for the rest of us weren't good.

I awoke yesterday morning to news that the cost of living for the average British household has risen by £1,300 a year, with households now spending an average of £1,307 per month on living expenses. The Daily Telegraph has the best article, here. This announcement was followed by inflation figures for the UK showing that by whatever measurement you use, inflation has gone up in Britain. Of course, the official measure (the CPI) is half the level of the actual cost of living (as measured by the broader RPI). The difference is primarily due to political expediency by the Government several years ago, who decided to exclude rampant increases in housing costs and thus trumpet that they had conquered inflation. They hadn't; they'd just removed the highest rising component.

Personally, it feels as if everything has gone up. I'm paying £1.10 a litre for diesel for the car (that's over $7 a US gallon!); a year ago, I thought it was high at 94p. Food prices have increased markedly; after 8 years, we're struggling to keep within our £100 a month supermarket budget. And a night out with friends seems to cost quite a lot more than a couple of years ago.

And I'm not the only one. Listen in to other people's conversations and you can't not overhear remarks about belt tightening. It seems that, long before it officially happens, Joe Average (the "man in the street") has entered his own personal recession. Credit card debts are biting; mortgage rates continue to rise (even though the Bank of England has cut the base rate, the average mortgage rate has increased in the last six months) and salary increases are not keeping pace. Joe Average has every reason to feel pain in his hip pocket nerve.

Am I worried? Yes. Although, my job should be safe for the life of my project (another 18 months or so) and big infrastructure projects are flowing in to all the engineering firms. It's the side-effects that worry me: the increases in living costs; the increase in the cost of borrowing, just at the time when we will need to refinance (our mortgage comes off its 5-year fixed rate in August. It won't ratchet up like an American ARM, but the standard variable rate is more than 2% higher than we are used to paying).

I'm aware that it's no use worrying over the things I can't control. I will have a job, or I'll be made redundant; the mortgage will increase or we'll be offered another fixed rate a price that doesn't hurt too much; these are things beyond my control. What I can control is how inflation affects me: I can choose cheaper options; I can save to buy what I value and stop wasting money on things that aren't important; I can't reduce my commuting costs by much, if anything, but I can build my budget to accommodate that; I have the knowledge and the tools at my disposal and I have a peer group here on the internet who will support me.

I watched a program last Wednesday night that is predicting a huge personal debt hangover for Britain, Repossession, Repossession, Repossession. It was quick to lay blame at the door of the banking industry for permitting customers to overborrow. However, it neglected to address the issue of personal responsibility for several of the people it profiled. The explanations were too simplistic. It's easy to blame the banks, but the banks don't take out the credit card to purchase the shopping.

I am still mystified by the couple who lost their house; their claim was that they hadn't been able to afford their mortgage when they purchased their house 8 years or so ago and, therefore, had run up huge debts trying to make the payments. Their story just doesn't add up.

The thing is: their original mortgage was only £27,500. Plug that number into a mortgage calculator over 25 years (UK standard mortgage period) at a penal rate of 7% and the payments are £194 per month. Both of them were discribed as having full time jobs - even if they were on minimum wage, their joint take-home pay 8 years ago would have been £1,400 a month. Throw in Council Tax of £100 a month, utilities of another £100, and they still had £1,000 to live off. How, then, did their debts escalate to over £140,000? Blaming their mortgage payments just doesn't cut it.

- Pam

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