So deflation has returned to the UK, according to official figures published this week. September’s Consumer Prices Index (CPI), which is a measure of inflation, recorded -0.1%, the second negative reading this year.
A boost for consumers or damaging deflation?
Falling prices are thought to be mainly the result of lower petrol and diesel costs, as well as heavy discounting by the nation’s clothing retailers. But analysts and politicians appear to be fairly relaxed about the recurrence of deflation: the Chancellor George Osborne said that cheaper prices were “a real boost” for consumers at a time when average wages were on the rise.
Osborne said the -0.1% figure did not represent “damaging deflation” – a longer period of falling prices which could threaten economic stability. The low and negative inflation recorded throughout 2015 has largely been driven by the slump in the global price of oil, and its knock-on effect on fuel and energy costs, rather than any structural weakness in the UK economy.
Implications for tax allowances and benefits
Nevertheless, this new deflation figure has a number of implications, not least because the government tends to use September’s inflation rate to set any increases in tax allowances and benefits due in the following financial year. For example, certain disability and care allowances will therefore not increase next April – although they will be maintained at their current rate rather than cut by 0.1%.
The state pension, on the other hand, is currently protected by the “triple lock” guarantee. This means that pensions rise each year by whichever rate is highest out of the CPI rate, rises in average earnings, or 2.5% — so pensions always rise by at least 2.5% a year, and by more at times when inflation or wage growth is greater.
A freeze in the ISA allowance
The September inflation rate also dictates any increase in the ISA allowance for the subsequent tax year. In April this year, the ISA limit rose from £15,000 to £15,240 as a result of last September’s mild rise in inflation. But as things stand, the allowance will not be altered next spring (although the Treasury reserves the right to impose an increase at its own discretion).
Pushing back a base rate rise
This will be of interest to the large number of people who are expected to take advantage of the introduction in 2016 of the new Innovative Finance ISA (IFISA), which will allow lenders to shelter their P2P loans from income tax. While lenders look unlikely to be gaining the extra benefit of hike in the ISA allowance, the current spell of deflation means that the prospects of change in the Bank of England base rate seem even more remote.
From widespread expectation of a rise at the end of this year – as suggested by the Bank’s governor Mark Carney back in July – the uncertainty caused by events in China and now falling prices look to have kicked an imminent increase into the long grass. As such, the interest received on P2P loans should continue to comfortably outstrip savings returns for some time to come.