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Inflation’s eating your savings – what can you do about it?

If you’re a diligent saver, you may feel you’re financially protected against an uncertain future.

But if coronavirus has taught us anything, it’s we can’t be sure what’s round the corner. Although the worst of the pandemic seems to be over, rising inflation continues to create an uncertain economic outlook.

So what causes inflation, and what can you do to reduce its impact on your money?

What is inflation?

You may have noticed how expensive a staycation was this year. You’ve probably discovered your weekly shop has gone up and it costs more to fill your car. This rise in everyday prices is known as inflation.

It’s been caused by increased demand for goods and services as coronavirus restrictions were lifted, combined with recent supply issues - for example a shortage of lorry drivers and the knock-on effect on petrol availability. In the 12 months to October 2021, inflation surged to 4.2% - the highest rate in almost 10 years.

That means something that cost £1 a year earlier may have gone up to £1.04 or more. While that might not sound like much, when you add it up it amounts to a significant rise in everyday costs.

The Office for Budget Responsibility said it expects the consumer price index (CPI) - a key measure of inflation - to reach 4.4% in 2022[@ons], suggesting higher prices are here to stay for a while at least.

How does inflation affect your savings?

Money held in savings accounts hasn’t grown much in recent years due to historically low interest rates. But with inflation running high, your savings are now at risk of losing value in ‘real’ terms as you’ll be able to buy less with your money.

Let's say inflation averages 3% over the next 5 years. That means what costs you £1,000 today would cost you £1,159.27 in 2026.

If you put £1,000 in a savings account today paying 0.5% interest, you’ll only earn £25.25 interest over the same period. So you'd effectively lose £134.02.

So, what can you do to protect your money?

Wait for interest rates to rise

Interest rates are set by the Bank of England (BoE) to help steady the economy. In normal circumstances, it considers raising interest rates to help put the brakes on rising inflation. During 2021 the BoE held back on rate rises to protect home owners and businesses during the pandemic. However, if inflation continues to rise, we’re likely to see interest rate increases in 2022.

While this may have a positive effect on your savings - as higher rates tend to filter through the economy - it also means the cost of borrowing on credit cards, loans or mortgages may go up. It’s a delicate balancing act to keep the economy growing and inflation under control.

Find out more about why interest rates change.

For savers, the benefits of any interest rate rises will probably be marginal. That’s because rate rises are likely to be slow and steady, starting from a historic low. When inflation is taken into account, it may take a long time for rising interest rates to offer any real ‘bang for your buck’ on savings accounts.

Invest to give your money a greater potential to grow

Investing your money over the medium to long term may give you a better chance of beating inflation. That’s because investments, such as funds, shares, bonds and other assets could give your money greater potential to increase in value over time. 

To see how much your money could be worth in years to come, try our investment calculator.

You might think that investing is only for the experts, and those with lots of money. But starting to invest may be easier than you think.

Funds, for example, can be an effective way to spread your risk. Funds are a ready-made basket of investments that save you having to choose individual investments, such as shares in specific companies.

You simply choose the level of risk you’re comfortable with, and set the amount you want to invest each month, then the fund will be managed for you. With HSBC, you can invest with as little as £50. Fees and eligibility criteria apply.

Keep in mind that any investment can fall in value, as well as rise, and you may get back less than you invest.

You need to be prepared for the value of your investment to jump around. But the longer you stay invested, the more potential your money has to grow - and recover from any setbacks along the way.

New to investing?

If you’re considering opening a stocks & shares ISA, we'll show you how to get started.

Is investing right for you?

It’s good to have an emergency fund of between 3 to 6 month’s expenses saved and easily accessible before you start investing. This way, if you get hit with any unexpected costs, you won’t have to dip into your investment to cover them.

If you’re trying to decide between saving and investing, think about what you’re saving for. Is it something specific, like the down payment on a property, a new car, or a holiday? If you think you’ll need the money within 5 years, a savings account may still be the best option because you’ll know that - inflation aside - the value of your money can’t fall. 

If you don’t think you’ll need to access your money for at least 5 years - whether you’re saving for something specific like children’s school feesretirement, or just to have more options with your finances - it might be worth considering investing.

We always recommend investing for at least 5 years. That way, your money has time to recover from any short-term dips in the market - like at the beginning of the pandemic when stock markets dropped around the world, before they bounced back.

Key takeaway

If you’ve already got an emergency fund, investing your money may give you a better chance of beating inflation over the long term.