The rise in inflation to a 40-year high later this year is expected to trigger the biggest drop in living standards across the UK since records began in 1956, according to the Office for Budget Responsibility.
Surging inflation is expected to reduce real household disposable incomes by a ‘substantial’ 2.2 per cent over the next year, resulting in a marked slump in living standards for many.
This year is on track to be only the ninth occasion since the 1950s that real household disposable incomes per person have fallen on a financial year basis.
This has not happened since 2016/17, when the Brexit referendum took place.
Shifts: Contributions to real household disposable income growth over time
The OBR said a complex cocktail of factors had driven up inflation and are on track to hammer disposable income levels and living standards. The failure of wage growth to keep up with inflation is a key factor.
It said: ‘The underlying source of the reduction in disposable incomes comes from several sources.
‘The failure of nominal earnings growth to keep pace with rising inflation is a key factor.
‘Rising inflation, in turn, reflects increases in global prices of goods (including commodities) that preceded the Russian invasion and the further ratcheting up of energy prices that followed.
‘These increases in global goods and energy prices are a negative terms of trade shock that, as a net importer of both, lowers UK standards of living.’
Shifts to personal taxes and benefits will also play their part in lowering people’s real disposable income in the coming financial year, it added.
Crucially, the OBR said that the drop in disposable income and living standards was emerging ‘despite the £17.6billion of fiscal support for households announced in this Spring Statement via the energy support package, fuel duty cut and NICs primary threshold measures.’
Predictions: Real household disposable income will see living standards drop to their worst level since the 1950s, the OBR said
It said: ‘Without these measures, RHDI per person would fall by around another 1 percentage point in 2022-23 meaning the Government has offset around a third of the fall in living standards that would otherwise have occurred.’
The OBR added: ‘Total tax and benefit changes in this Spring Statement offset only about a third of the overall decline in real per-person disposable incomes.’
In a gloomy prediction, the OBR thinks levels of real household disposable income would will recover to pre-pandemic levels later than expected, and not before 2024.
It said: ‘This is two years later than we forecast in October and four years after the start of the pandemic.’
However, real household disposable income levels should start to recover slightly in 2023, when energy prices fall and inflation eases, it added.
The OBR expects lower real disposable incomes to erode household purchasing power ‘materially’ over the remainder of 2022, prompting it to drop its forecasts for consumption growth this year.
It added: ‘With the cost of living squeeze continuing into 2023, consumption remains around 3 per cent lower than in our October forecast.
‘Higher nominal interest rates also increase the costs of borrowing, contributing to weaker consumption. As energy prices fall back in 2023, consumption growth begins to return to more normal rates.’
Facing weaker real income growth, households are expected to save less than the OBR predicted in October, particularly in the near term, taking the saving ratio to ‘historically low levels’.
In the aftermath of the Chancellor’s statement, Myron Jobson, a senior personal finance analyst at Interactive Investor, said: ‘Overall, shouts of “of is that it” is likely going to be the overarching sentiment shared by those struggling to stay financial afloat amid the cost-of-living squeeze.
‘The bottom line for consumers is strap in for a heightened inflation that is expected to last until 2024 according to official estimates. The cost-of-living crisis is set to get worse before it gets better.’
Disposable cash: Real household disposable income per person fluctuations
