Inflation has dramatically reshaped the UK economy, steering households towards the highest savings rate in three decades and cutting spending by £50bn, according to the Decision Foundation.
In a recent report, the Center for Economic Research highlighted that household consumption contracted more than the decline in real income during the cost of living crisis, with surplus funds deposited in savings accounts. Compared to the last three months of 2019, the last quarter before the Covid-19 pandemic, real disposable income for households fell by 1.1%, or £280 per year. However, real spending fell by 4.7%, or £1,200 a year.
The difference of about £1,000 between reduced income and spending was channeled into saving, with households saving 6% of their income in the last quarter of last year. This represents the highest non-pandemic savings rate in 30 years. “If they had instead saved at 2019 levels, this would have increased overall spending by £54 billion a year,” the foundation noted.
James Smith, research director at the Decision Foundation, commented on the findings, saying: “The sheer scale of the inflation shock lasting almost three years has reshaped the economy and public finances and changed what people do with their money. The crisis has made us poorer, with the cost of Essentials hit low-income households hard and transformed us from a nation of spenders to a nation of savers, with credit card spending falling by 13% and households saving around £54 billion a year, more than we had expected.
Inflation peaked at a 42-year high of 11.1% in October 2022 but has since fallen to 3.2%. Meanwhile, the Bank of England raised interest rates to 5.25%, the highest level in 16 years, making saving more attractive than spending.
The report also noted that increased government spending to offset the cost of living crisis and the spread of inflation-linked government debt pushed the UK's debt-to-GDP ratio up by six percentage points during the rise in prices. Historically, periods of hyperinflation have seen a country's relative debt stock decline.
The Decision Foundation's findings suggest that while inflation imposed financial pressures, it also led to a significant shift in household financial behaviour, leading to increased savings and reduced consumption across the UK.
