Inflation is another one of those words that you hear on the news from time to time that you know you should pay attention to and then something  - anything - more interesting comes along and all thoughts of inflation are forgotten. However, it's worth understanding the effects of inflation on your current savings.

So, what is it?

Inflation is the rate of increase in prices for goods and services.

Researchers look at the prices of hundreds of things we commonly spend money on, including bread, cinema tickets and pints of beer - and tracks how these prices have changed over time.

Inflation rates are expressed as percentages. If inflation is 2%, this means that on average, the price of products and services we buy is 2% higher than a year earlier. Or, in other words, we would need to spend 2% more to buy the same things we bought 12 months ago.

Why should I care?

Inflation has a huge impact on our savings. To be able to have the same lifestyle you have now your income and savings has to keep in line with inflation.  Think you want to retire on £30k per year? Well, in 30 years, you will need something like £60k to enjoy the same standard of living that £30k will get you now.

UK annual inflation, as measured by the Consumer Prices Index (CPI), reached 3% in January 2018, the Office for National Statistics (ONS) said, up from a rate of 1.8% in January 2017. It is close to November's six-year high of 3.1%.

Despite a rise in the last 12 months, interest rates in the UK are low at 0.5%, the pound is weak and inflation is high.

Unless your savings are getting a higher interest rate than the rate of inflation you effectively have less and less in your account.

Some Cash Isa interest rates are as little as 0.01% such as Natwest standard Cash ISA.

So what’s the opposite of saving -  losing?

That’s what you are doing year after year if choose to ignore inflation. Your money is ‘worth’ less.

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The real impact of inflation

In the UK, savers are now facing the reality of negative real returns - your money is wasting away in savings accounts.

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We're losing billions

Research from Royal London Asset Management looked at the impact of inflation on savings for the 19 million people with cash Isas.  They found a £1,000 deposit in cash 10 years ago would now be worth less than £900. The same £1,000 invested between company shares, bonds and property 10 years ago would be worth £1,500 today.  Those 19 million people with a Cash Isa have collectively missed out on £100 billion in returns.

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Figures taken from ROYAL LONDON POLICY PAPER 10: The Curse of Long Term Cash

What’s should I do instead?

This all suggests putting your money in a standard savings account is fairly pointless at the moment but you can't be discouraged from saving for your future. The less you save now, the bigger impact this has on your long-term savings - you can read more about that in my blog here.  So what can you do to fight high inflation and low interest rates?  If you are a UK tax resident, prepared to tolerate some risk and feel OK about putting your money away for at least 10 years without touching it then you should transfer your Cash Isa to a Stocks and Shares ISA as this will potentially give you a higher rate of return.

Investing the stock market historically has give people a better rate of return however, you must be aware that rates can go up as well as down, which is why you must be prepared to put your money away for the long-term and ride out the downs with the ups.

How to open a Stocks and Shares Isa?

  1. Check the Stocks and Shares best buy charts on Money Saving Expert or another similar comparison site. You are looking at transaction costs and annual fees.
  2. Pick one and apply for it.
  3. Transfer your money into your new account - your new provider will give you details
  4. Log into your new account and check your money has arrived.
  5. Pick your funds: this sound complicated and you can do a lot of reading and research around fund allocation.  However a simple way to start is to use the common  60/40 split.  This would suggest putting 60% of your money into a global stocks tracker (such as this one from Vanguard), and 40% into government bonds in your country (a UK example is this one from iShares).
  6. Alternatively, you could use a robo-adviser such as Nutmeg or Wealthify and they will pick funds for you once you have completed a risk profile questionnaire.

Don't ignore inflation otherwise you are putting your money away and you won't benefit from it when you need it most.  Do some research today and take action.