Inflation and Household Spending - January 2023
Key Findings
- The inflation burden for the lowest income households has increased throughout 2022 peaking at 11.5%, nearly 3 percentage points higher than that experienced by the highest income households.
- Inflation rates for different income groups and household compositions are expected to converge by the end of 2023, but will remain high by the standards of recent times at between 4.5-5% for all household groups.
Introduction
Inflation continued to rise sharply throughout most of 2022, and has been particularly high in food and energy, 17% and 88% respectively in December 2022. The Bank of England is expecting inflation to fall sharply from mid-2023, however inflation levels are expected to remain higher than the target of 2% until Q2 2024.
In this article, we draw together ONS data on the spending of families, official inflation data and predicted inflation rates to calculate measures of ‘lived inflation’ for different types of households and explore how they may be impacted by expected price rises. We have estimated the inflation rate for different households over the next 12 months running up to the end of 2023.
Lowest income households have been hit hardest by higher prices
Since consumers spend different proportions of their income on different products then the lived experience and impact of price increases varies across households. By weighting price increases by how much a household typically spends on a product we can estimate the ‘lived’ inflation experienced by different types of households (full details of the methodology can be found here).
In 2022, the households on the lowest incomes experienced steeper increases in inflation, peaking at 11.5% in October 2022, nearly 3% higher than the inflation rate for the highest income group at 8.6% for the same month. This is the largest inflation gap we have estimated between the highest and lowest income groups for our historical lived inflation estimates beginning in 2016.
The reason for this large difference is that inflation has been particularly high for energy and food and these constitute a greater share of spending for those on lower incomes.
The table below presents the 15 expenditure classes with the highest rate of inflation as at December 2022. It confirms that the inflation rates for gas and electricity have been staggeringly high. It also shows that 11 of the other 13 categories are for food products, and that most of these are for foods typically considered household essentials, such as milk, sugar, cheese, butter and pasta, so that it is very difficult for households to avoid purchasing these.
As inflation falls household inflation rates should converge
Although we predict the 2022 trends to continue into early 2023, by mid-year inflation rates fall steeply. In particular, both food and energy inflation are expected to decrease; IGD are predicting food inflation to fall to around 9% by the end of 2023 and Cornwall Insight expects the energy price cap to fall below the Energy Price Guarantee by the second half of 2023.
Feeding these predictions into our inflation forecasts we expect inflation for different household groups to converge by the end of the year. Rates will still be high compared to the Bank of England target and compared to historical trends, but we predict that by December 2023 estimated lived inflation rates for both the highest and lowest income groups will converge, at a rate of 4.66%. The predicted inflation rates for the middle income quintiles are slightly higher ranging from 4.73% to 4.75%.
In terms of household composition, retired households and single parent households have experienced higher rates of inflation throughout 2022 peaking at 11.3% and 10% respectively in October 2022. We also predict that the inflation rates for different household compositions will converge by the end of the year again driven by falling food and energy inflation.
In December 2023, we predict that retired households will still face the highest rates of inflation at 4.82%, however this is only a little higher than other household types, which range between 4.48% for single households without children to 4.68% for couples without children.
The impact on household budgets
Households will have faced higher bills throughout 2022 if they tried to maintain the same level of consumption of energy, fuel and food as pre-pandemic.
We estimate that those on the lowest incomes would need to allocate 36% of their household expenditure to food, fuel and energy in December 2022 to maintain the same level of consumption of these essential items as they had previously. This is an increase of almost 7 percentage points compared with December 2021 when the share was 29%.
By contrast, the highest income group wouldn’t need to increase their share of spending on these goods by as much. For these households we estimate an increase of 3.5 percentage points, rising to 21% of all spending.
In monetary terms, the lowest incomes would need to spend over £30 more per week in December 2022 compared to December 2021.
This would be a significant burden for the lowest incomes, with the average (median) weekly income for the first income quintile being £294 in the 2020/21 LCFS survey.
Turning to household composition, the burden is highest for the single parent households and retired households. The increase between December 2021 and December 2022 for these households is predicted to be 6.3 and 5.6 percentage points respectively increasing to 31.9% and 31.6%.
In monetary terms retired households and single parent households will need to spend over £40 more per week in December 2022 to maintain pre-pandemic consumption levels of energy, fuels and food.
These amounts are beyond many household budgets. So rather than keep the same level of pre-pandemic levels of consumption many households are cutting back on essentials. 38% of households reported cutting back on essential spending in January 2023 compared with 27% in January 2022.
Although inflation is expected to come down throughout 2023 these are still increases on top of the very large increases experienced in 2022. Consumers in our qualitative panel are still concerned about the uncertainty of future price rises.
We can therefore expect a large proportion of consumers, particularly those that have faced the highest rates of inflation in late 2022, to still need to make difficult decisions when managing their household finances and the acute cost of living crisis seems likely to mature into a deep-rooted challenge of reduced living standards.