The recovery seems to have well and truly set in. Today's ONS release of UK growth data suggests that the UK economy grew by 0.7% in the fourth quarter of 2013. Growth also looks to continue next year: after the third successive upgrade, the IMF now expects the UK economy to grow by 2.4% in 2014. The latest ONS release on the labour market also shows the unemployment rate at 7.1% (down from 7.7% a year earlier). Even forecasts for real wages are starting to pick up.
With brighter prospects for the economy and wages, many commentators are hailing the end of the "cost of living crisis" and predicting that the issue will fall away as a major economic and political battleground well before the 2015 General Election. There are three key reasons why I think these predictions are wrong and why debates around the cost of living and living standards are not going to go away any time soon.
The price of essentials is rising
If wages keep pace with prices in the future, immediate pressures on household budgets will be eased. However, more concerning is the composition of price rises and the impact on household expenditure.
The most obvious issue is that the cost of essentials has consistently risen more quickly than non-essentials. This means that they are now taking up a bigger chunk of household budgets. Just taking housing, our Quarterly Consumer Report from July 2013 showed that spending on housing, as a proportion of income, rose from 15% of household budgets in 1970 to 23% in 2010. Recent ONS data (see chart) also shows that the proportion of household spending accounted for by non-discretionary spending has risen by 4.2 percentage points over the last 10 years.
In short, as a result of rising prices, consumer budgets are more and more being taken up by essential expenditures and this is denting household spending power. Just looking at the last ten years, analysis using the Which? Spending Power Index shows that if food, housing and energy prices had risen at the same rate as general inflation, disposable incomes would be 5.2% higher in real terms than they are today; that's the equivalent of £1,320 at today's prices.
Future investment will cost us all
We can also see that this rising pressure from non-discretionary spend does not look like ending. One reason why is that consumers are also being asked to contribute to investment in essential markets such as telecoms, energy and water. The recent National Infrastructure Plan outlined investments currently pencilled into the infrastructure pipeline and showed the proportion expected to be funded through consumers' bills. A conservative calculation shows that this could amount to increased costs of £740 per household per year up to 2020.
Consumption needs are changing
The squeeze on household budgets is also not just a matter of incomes, prices and rising costs of essentials. Households increasingly have to provide more to account for changes in how we live our lives. This means that, even if prices weren't rising, the same money would need to be spread more thinly.
An obvious example is an increasing need to provide for retirement. The demise of defined benefit schemes and increased life expectancy mean that we are all going to have to sacrifice more of our pay today to secure our future living standards. This point is handily summarised in a recent briefing from the Treasury. It controversially outlined that workers' real incomes had risen by 3.9% from their pre-crisis peak. However, more of that remuneration than ever before now goes straight from employers into National Insurance and pension contributions, meaning that take-home pay has been squeezed.
Similar arguments can be made with increasing needs to fund social care, children's (higher) education and childcare. All in all, increased needs to provide for the future and for new essentials means that there is less to be spent on what we need and what we want now.
So what can be done?
Of course, larger rises in real terms pay will ease some of these issues. But with shifting consumption needs, heavier requirements to save for the future and an increasing burden of non-discretionary spending, it is unlikely that pay rises will be enough.
So what else can be done? First it needs to be accepted that there is not a clear enough articulation of the combined impact of these price rises and future demands on household budgets. Getting a handle on this "Big Sum" will empower consumers to take the necessary steps and politicians to put in place the right policy responses to raise livings standards.
In the short-term consumers can attempt to shift their consumption patterns as we have recently seen for energy. They can also be helped to more actively pursue the best value options. A clear example is in annuity markets where, despite rates varying by up to 38%, only 30% of people switch provider when they come to retire, with the majority buying their annuity from their pension firm. The potential loss (and associated need to save more in earlier life) is huge.
These are both viable short-term options, but faced with a clear picture of the Big Sum and the need to be informed, engaged and active in an ever growing range of markets, it is unlikely that they will be enough in the longer-term. What's needed to set living standards on an upwards and sustainable trajectory is a more fundamental shift in how consumers spend their money and engage in a huge range of essential and non-essential markets. Policy makers and regulators also need to make sure that markets work better for consumers and that public services respond to consumer needs.
There is no doubt that this will be a massive challenge. There aren't any easy answers, but these are all areas where Which? is actively pushing for change. Politicians can start by being honest about the challenges for consumers that lie ahead and how they combine and interact. Devising a coherent and wide ranging consumer-focussed policy agenda will then be the task facing policy makers in the run up to the 2015 election and beyond.Suggest a correction