What is Inflation?
Inflation is the rate at which prices for goods and services increase over time, reducing the purchasing power of money. When inflation is high, each pound buys less than it did before. Understanding inflation is crucial for anyone planning their finances, from everyday budgeting to long-term investing.
The Bank of England targets 2% annual inflation as the ideal rate for a healthy economy – enough to encourage spending and investment without eroding savings too quickly.
How Inflation is Measured in the UK
Consumer Prices Index (CPI)
CPI is the UK's primary measure of inflation and is used by the Bank of England for monetary policy. It tracks the price of a "basket" of around 700 goods and services that represent typical household spending.
Consumer Prices Index including Housing (CPIH)
CPIH is the same as CPI but includes owner occupiers' housing costs (OOH). The Office for National Statistics considers this the most comprehensive measure of inflation.
Retail Prices Index (RPI)
RPI is an older measure that includes housing costs like mortgage interest payments. It typically shows higher inflation than CPI and is still used for some contracts, rail fare increases, and student loans. However, it's being phased out for official purposes due to methodological concerns.
| Measure | Includes Housing? | Primary Use |
|---|---|---|
| CPI | No | Bank of England target, pensions |
| CPIH | Yes (rental equivalent) | Official headline measure |
| RPI | Yes (mortgage payments) | Student loans, some contracts |
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Get instant results with our Inflation Calculator. Also check our Salary Calculator and Pension Calculator.
Calculating Inflation's Effect
Future Price = Current Price × (1 + inflation rate)^years
Equivalent Value = Original Amount × (Current CPI ÷ Original CPI)
Example: What would £100 from 2000 be worth today?
CPI in January 2000: 67.2
CPI in January 2024: 133.8 (approximate)
Calculation: £100 × (133.8 ÷ 67.2) = £199.11
Answer: £100 in 2000 had the same purchasing power as approximately £199 today.
Historical UK Inflation by Decade
1970s: The Inflation Crisis
Average annual inflation: 12.5%
Peak: 24.2% in 1975
The decade saw oil crises, wage-price spirals, and the "Winter of Discontent." £100 in 1970 would only buy £31 worth of goods by 1980.
1980s: Taming Inflation
Average annual inflation: 6.5%
Peak: 18% in 1980
Thatcher's policies brought inflation down from double digits to around 4% by the end of the decade, though at the cost of high unemployment.
1990s: Towards Stability
Average annual inflation: 3.5%
The Bank of England gained independence in 1997 with a 2% inflation target. The decade ended with inflation firmly under control.
2000s: The Great Moderation
Average annual inflation: 2.1%
A period of remarkable price stability, disrupted only briefly by the 2008 financial crisis.
2010s: Low Inflation Era
Average annual inflation: 2.3%
Inflation stayed near target, with brief periods of below-target inflation (deflation concerns) and above-target spikes.
2020s: Return of High Inflation
2020: 0.9% (pandemic)
2021: 2.6%
2022: 9.1% (energy crisis)
Peak: 11.1% in October 2022
2024: 2-3% (returning to target)
What Your Money Could Buy
Here's how £100 has changed in purchasing power over the years:
| Year | £100 Then = Today | £100 Today = Then |
|---|---|---|
| 1960 | £2,150 | £4.65 |
| 1970 | £1,450 | £6.90 |
| 1980 | £450 | £22.20 |
| 1990 | £260 | £38.50 |
| 2000 | £200 | £50.00 |
| 2010 | £145 | £69.00 |
| 2020 | £115 | £87.00 |
Inflation and Your Finances
Savings Erosion
If your savings earn 2% interest but inflation is 4%, your money loses 2% of its real value each year. This is why financial advisers talk about "real returns" – the return after accounting for inflation.
Real Return Calculator
Formula: Real Return = Nominal Return − Inflation Rate
Example: 5% savings rate − 3% inflation = 2% real return
Salary and Pay Rises
If you get a 3% pay rise but inflation is 5%, you've actually had a 2% real pay cut. Understanding this helps when negotiating salary increases.
| Pay Rise | Inflation | Real Change |
|---|---|---|
| 5% | 2% | +3% (real gain) |
| 3% | 3% | 0% (breaking even) |
| 2% | 5% | -3% (real loss) |
Mortgages and Debt
Inflation actually helps borrowers because you repay debt with money that's worth less than when you borrowed it. A £200,000 mortgage taken in 2000 would feel much smaller in today's money.
Protecting Against Inflation
Index-Linked Investments
- Index-Linked Gilts: UK government bonds that pay returns linked to RPI
- NS&I Index-Linked Savings Certificates: When available, these track inflation (currently not on sale)
- Inflation-linked annuities: Pension income that rises with inflation
Assets That Typically Beat Inflation
- Equities (stocks): Historically return 7-10% annually over long periods
- Property: UK house prices have generally risen faster than inflation
- Commodities: Gold, oil, and other commodities often rise with inflation
The State Pension Triple Lock
The UK State Pension increases each year by the highest of:
- CPI inflation
- Average earnings growth
- 2.5%
This protects pensioners from inflation eroding their income.
Worked Examples
Example 1: University Fees Inflation
University tuition was £1,000 per year in 1998. Today it's £9,250.
If fees had only risen with CPI inflation, they would be approximately £1,900.
Actual increase: 825% vs. CPI increase of 90%
Conclusion: Tuition fees have risen far faster than general inflation.
Example 2: House Prices
Average UK house price in 1995: £55,000
Average UK house price in 2024: £285,000
Actual increase: 418%
If houses had risen with CPI: £55,000 × 2.1 = £115,500
Conclusion: House prices have outpaced general inflation by a significant margin.
Example 3: Savings Account
You deposited £10,000 in 2019 earning 1.5% annual interest.
By 2024, your account balance: approximately £10,770
Cumulative inflation 2019-2024: approximately 23%
Real value of your savings: £10,770 ÷ 1.23 = £8,756
Conclusion: Despite earning interest, your money lost real value.
Frequently Asked Questions
What is the UK inflation rate in 2024?
The UK CPI inflation rate as of late 2024 is around 2-3%, down significantly from the peak of 11.1% in October 2022. The Bank of England's target is 2% annual inflation.
What is the difference between CPI and RPI?
CPI (Consumer Prices Index) is the UK's primary inflation measure, excluding housing costs. RPI (Retail Prices Index) includes mortgage interest payments and typically runs 0.5-1% higher than CPI. RPI is being phased out for official purposes.
How much would £100 from 1990 be worth today?
Using CPI inflation, £100 in 1990 would have the same purchasing power as approximately £250-260 in 2024. This means prices have roughly 2.5 times since 1990.
How does inflation affect savings?
Inflation erodes the purchasing power of savings. If inflation is 3% and your savings earn 2% interest, your money loses 1% of its real value each year. This is why investors seek 'real returns' - returns above inflation.
Why is 2% inflation the target?
A small amount of inflation is considered healthy because it encourages spending and investment (money tomorrow will buy slightly less), while also providing a buffer against deflation, which can be economically damaging.
Calculate the real value of your money
Try Our Free Inflation Calculator →UK Inflation: Key Facts Every British Consumer Should Know
Inflation has a profound impact on the financial wellbeing of every household in the United Kingdom. The Bank of England has a statutory mandate to maintain price stability, with an inflation target of 2% as measured by the Consumer Prices Index (CPI). When inflation deviates significantly from this target, the Bank's Monetary Policy Committee (MPC) adjusts the base interest rate to bring it back in line. Higher interest rates make borrowing more expensive but encourage saving, helping to cool demand and reduce inflationary pressure. Lower rates stimulate spending and investment but can contribute to rising prices if the economy overheats.
The UK experienced its most severe inflation episode in decades during 2022 and 2023, when CPI peaked at 11.1% in October 2022, driven primarily by global energy price shocks following Russia's invasion of Ukraine, supply chain disruptions from the COVID-19 pandemic, and domestic factors including labour shortages and food price increases. The Bank of England responded with a series of aggressive interest rate rises, increasing the base rate from 0.1% in December 2021 to 5.25% by August 2023. This tightening cycle had significant consequences for UK mortgage holders, with millions facing substantially higher monthly payments as fixed-rate deals expired.
The ONS also publishes the Retail Prices Index (RPI), an older measure that tends to run higher than CPI because it includes housing costs such as mortgage interest payments and uses a different mathematical formula. Although RPI is no longer classified as a National Statistic due to methodological concerns, it is still used for uprating some UK financial products, including index-linked gilts, student loan interest, and certain rail fare increases. The government has announced plans to align RPI with CPIH (CPI including owner-occupiers' housing costs) from 2030, which will have significant implications for holders of index-linked investments.
Frequently Asked Questions About UK Inflation
What is the difference between CPI, CPIH, and RPI in the UK?
How does inflation affect my UK pension?
How can I protect my savings from inflation in the UK?
Bank of England Inflation Targeting and Monetary Policy
The Bank of England has a statutory mandate, set by the UK government, to maintain price stability by targeting an inflation rate of two percent as measured by the Consumer Prices Index (CPI). This target was established in 2003, replacing the previous Retail Prices Index (RPI) target of 2.5 percent, and is enshrined in the Bank of England Act 1998. The Monetary Policy Committee (MPC), comprising nine members who meet eight times per year, sets the Bank Rate (base interest rate) as its primary tool for steering inflation towards target. When inflation rises above target, the MPC typically raises the Bank Rate to dampen consumer spending and borrowing, while rate cuts are used to stimulate the economy when inflation falls below target or economic growth weakens.
For UK consumers and businesses, understanding the Bank of England's inflation targeting framework provides valuable context for financial planning. The Bank publishes quarterly Monetary Policy Reports that include inflation forecasts extending two to three years ahead, along with detailed analysis of the economic factors driving price changes. These forecasts directly influence mortgage rates, savings rates, gilt yields, and business investment decisions across the United Kingdom. The Bank also maintains an Inflation Calculator on its website that allows users to compare the purchasing power of money between any two years from 1209 to the present day, drawing on centuries of historical price data. Monitoring the MPC's decisions and forward guidance helps UK households anticipate changes in borrowing costs, make informed decisions about fixed versus variable rate mortgages, and assess whether savings rates are likely to keep pace with inflation in the months ahead.
James Mitchell, ACCA
Chartered Accountant & Former HMRC Advisor
James is a Chartered Certified Accountant (ACCA) specialising in UK personal taxation and financial planning. With over 12 years in practice and a background as a former HMRC compliance officer, he brings authoritative insight to complex tax topics.