Things just got a lot worse for inflation
- David Kuo is director at The Motley Fool. The opinions expressed are his own.-
What is the collective name for a crossing of fingers?
Because that seems to be what the Bank of Englandâ€™s Monetary Policy Committee members are doing. They are collectively crossing their digits in the hope that they have done enough to steer the UK economy out of recession.
They have pumped billions into the UK economy and it doesnâ€™t seem to be having much effect â€“ yet. That is unless you are a banker looking to bolster your balance sheet with freshly minted notes. Banks are happy to swap their assets for the Bank of Englandâ€™s cash but remain unwilling to lend. Additionally, there is still uncertaintyabout the ability of the economy to grow unaided if the central bank should stop printing money.
And just when you think that things could not get any worse, it just did. It seems another problem has crawled out of the woodwork is inflation. The Bank believes inflation will be extremely volatile. It may fall in September but near-term inflation may exceed initial forecasts. But because it believes the rise in inflation will be temporary, the suggestion is that interest rates can be maintained at around current record low levels for some time.
However, low interest rates, low growth and low prospects of an economic recovery are spooking foreign investors. Sterling recently sunk to levels not seen for five months against the euro. It has dropped from 1.30 euro a year ago to 1.07 euro, though it has since recovered to 1.11 euro.
UK exporters will undoubtedly welcome the favourable exchange rate against our European trading partners. But the fly in the ointment will be more expensive imports from European.
German cars, French wines, Italian luxury goods, Spanish holidays, Irish butter and Dutch Edam cheese will all cost more.
Inflation is the unspoken effect of Quantitative Easing. It is something we need to guard against if we are to ensure that our nest eggs and investments are not eroded over time. Leaving any money you have in savings accounts may seem like a sensible and safe thing to do now. But over the long term, cash has a terrible record at beating inflation. Consequently, it is better to invest in assets that have a proven track record against rising prices.
If you have a mortgage on a property, now is a good time to pay down as much of the loan you can afford while interest rates are low. If you have money that you can afford to put away for five years or more then it should be invested in shares rather than allowed to idle in a savings account.
Crossing your fingers is not an option. Putting your money to work is because things just got a lot worse.