How the other half are living with inflation

WITH the release of what are expected to be miraculously low inflation figures on Tuesday, we will once again be urged to give thanks and praise for this greatest of economic blessings.

At less than 1% a year, the nation will be reminded, the rise in the cost of living has not been at this negligible level since those sepia-tinted days when Harold Macmillan was touring the world, calling President Kennedy 'dear boy' and - in an early version of Tony Blair's latest odyssey - putting Africa to rights.

And on the face of it, the current inflation figures are indeed remarkable. In 1975, for example, the inflation rate was also 1% - the difference being that the rate then was 1% every fortnight, not every year.

But just as an annual inflation rate then of 24% did some people no harm in terms of maintaining or even improving their living standards, there are many today wondering why the 'death of inflation' seems to apply only to those prices they themselves do not pay.

Are they paranoid, or are the inflation figures as suspect as the official data ' proving' that crime is falling? One clue lies in the definitions. The so-called 'all items' retail prices index (RPI) is expected to have risen about 0.9% in the 12 months to the end of January. This is the showpiece of the 'inflation miracle'. But the Bank of England's Monetary Policy Committee targets not this rate, but a measure called RPIX, which excludes mortgage interest payments.

That makes some sense, given that the interest rate is the one price under the Bank's control and having the Bank using its own price to target its own price (among others) would be a tail-chasing exercise, to say the least. In contrast to the RPI, the RPIX is expected to have risen by 2.1% in the year to January.

So in other words, once falling mortgage rates are taken out of the picture, the inflation rate has more than doubled. As the Office for National Statistics noted of the December figures: 'The largest downward effect on the all-items 12-month rate came from changes in housing costs.'

And the largest upward effect? That came from 'prices for both non-seasonal and seasonal food'. Food prices loom ever larger the further one travels down the income scale, while the importance of mortgage costs diminishes.

This bias in the inflation figures against poorer consumers is underlinedby the detailed statistics for December. During the previous 12 months, lamb prices rose 10%, bacon prices 7% and bread prices 5%. Mortgage interest payments dropped by a whopping 24%.

True, the cost of clothing and footwear - another big slice of the budgets of low-income families - fell 4.4%.

But petrol and oil prices dived 13%, highlighting the suggestion that, to benefit in full from the current low-inflation environment, one needs to have a big mortgage and a fuel-guzzling car.

Nor is this the only discrepancy lurking behind the overall inflation figures. Prices set in the teeth of fierce international competition are steady or declining. Those set by companies or organisations that are sheltered from such chill winds have been predictably buoyant.

So consumer electrical appliances showed no change during 2001, while the price of 'other household consumables' dropped 1%. Car prices were flat, while the cost of toys, photographic and sports goods fell 2%.

It was a different story in the service economy. Restaurateurs marked up their prices a smart 4% while those supplying 'household domestic services' enjoyed a 6% increase.

Railway operators celebrated the neardisintegration of their network with a 4% rise in fares; water charges rose by the same amount; while the cost of 'entertainment and other recreation' rose 5%.

And, as if to prove that flooding and the disaster of foot-and-mouth disease need present no real barrier to price inflation, the cost of holidays in Britain rose 5%.

But to be able to thumb your nose with impunity at 'zero inflation', you need to give your 'customers' no choice but to pay up. Thus council tax rose by 6% - 8.5 times the rate of inflation. Perhaps the services provided by local government were 8.5 times better than they had been in 2000. Or maybe not.

The charge against high inflation is that it leads to 'misallocation of resources' as investors flee the steady returns of productive industry for the get-rich-quick fields of speculation, property dealing and 'hoarding'. But, as noted by John Butler at HSBC, 'low inflation - of below, say, 3% - can also misallocate resources', not only from one group of consumers to another, but from one type of industry to another, most notably at present from manufacturing to retailing.

So if, come Tuesday, you experience an incredible wallet-shrinking feeling, do not worry. You are not alone.