Rising inflation piles pressure on our savings

Published on Friday 20 November 2009 18:36

THE struggle to secure real returns from savings has intensified this week after it was revealed that inflation rose in October.

Consumer price inflation (CPI), the government's preferred inflation yardstick, rose from an annual 1.1 per cent in September to 1.5 per cent last month. That means basic rate taxpayers now need a savings rate of 1.875 per cent to at least match inflation, while higher rate payers need a gross rate of 2.5 per cent.

But most savers who have seen their savings interest plummet in recent months remain stuck in low-paying accounts that fail to outstrip inflation. And further inflation hikes in the coming months could be devastating unless rates improve significantly, particularly for pensioners needing interest from their savings to bolster their income.

Economists believe inflation is likely to continue climbing in the short term, claiming the reversal of the VAT cut, the weak pound and rising oil costs will apply upwards pressure on prices.

However, almost three-quarters of savings products already fail to give savers returns that keep pace with inflation, noted Kevin Mountford, head of banking at moneysupermarket.com. Just 7 per cent of easy access accounts and 5 per cent of individual savings accounts (Isas) pay returns above inflation at its current level.

"We expected to see saving rates creep down before the end of the year, but if rates go any lower then savers will find it almost impossible to beat inflation," said Mountford. "Anyone taking out a new deal should look for the highest return on terms that suit them, otherwise as the economy stabilises we might see inflation creep up even more and bite away at those interest rates."

Yet 90 per cent of variable rate accounts currently pay below the 2.5 per cent gross rate needed by higher rate taxpayers and 78 per cent fall short of the 1.875 per cent needed by basic rate payers, according to research by Moneynet.

Andrew Hagger, head of communications at Moneynet, said: "The message is clear – don't let your savings languish in a sub-standard account. You may have to move your emergency or rainy day fund to an account offering a 12-month bonus and then switch away when the bonus falls away," said Hagger. "For example, Citibank is paying 3.25 per cent gross on its instant access flexible saver, but this includes a bonus element of 2.25 per cent for the first 12 months only."

So how can savers get returns that at least match inflation? The most obvious step for those watching their money being eroded by inflation is to find a better deal – and they are around. For instance, while many instant access accounts pay just 0.1 per cent, West Brom and Scarborough building societies have rates at 2.8 and 2.76 per cent respectively, while several other accounts pay over 2 per cent.

There are some appealing notice account deals around too, topped by the Investec High 5 product, which averages the top five interest rates on the market. The product has a minimum investment of 25,000, but Manchester Building Society and FirstSave also pay 3.25 per cent or more.

Another way of boosting returns from savings is to use the full annual tax-free Isa allowance. For over-50s the annual cash Isa allowance is currently 5,100. Other savers have to wait until April before their allowance rises to that level from the current 3,600. Most of the top Isas include 12-month bonus periods, but Standard Life Bank's cash Isa, which pays 2.65 per cent, does not.

For taxable returns, the fixed rate bond market could be a happy hunting ground. Among the best short-term deals currently available are a one-year 3.95 per cent rate from National Savings & Investments and a 4.25 per cent bond for two years from Birmingham Midshires (part of Lloyds). Experts advise against tying into longer deals, however, due to the threat of a medium-term spike in inflation.

Savings in which the return is linked to inflation are also worth considering. The index-linked certificate from National Savings & Investments typically pays tax-free interest of 1 per cent above the retail prices index (RPI) rate of inflation, which rose to -0.8 per cent last month from -1.4 per cent in September. While the RPI is negative the certificates pay 1 per cent tax-free, and although the rate may not be high, there is a guarantee of keeping the returns safe from the ravages of inflation.

TOP PAYING ACCOUNTS

Top three instant access accounts

&#149 West Bromwich Building Society – no notice saver direct – 2.8 per cent

&#149 Scarborough Building Society – direct access – 2.76 per cent

&#149 Stroud & Swindon Building Society – 2.25 per cent

Notice accounts

&#149 Investec High 5 – 3.36 per cent (25,000 minimum deposit)

&#149 Manchester Building Society – 3.31 per cent

&#149 FirstSave – 3.25 per cent

Short-term bonds (one year)

&#149 National Savings & Investments – 3.95 per cent

&#149 Post Office – 3.7 per cent

&#149 Halifax – 3.50 per cent

Cash Isas

&#149 Newcastle Building Society – 3 per cent (including 1 per cent bonus for 12 months)

&#149 Standard Life Bank – 2.65 per cent

&#149 Barnsley Building Society – 2.65 per cent (including 0.75 per cent bonus until 31/12/10)

Source: Moneyfacts