The past 12 months have been a particularly turbulent time for our finances. Soaring inflation and consequent rising interest rates have been the theme of 2022. But is this set to continue?
Inflation has affected nearly every aspect of our lives. From how much we pay for groceries, to heating our homes and our investment portfolios – nothing is left untouched in financial terms.
But what can we expect in the next 12 months? No two years are ever alike so the challenges ahead will be different from those we have had to face in 2022.
Here are some of the major themes to be aware of.
Prices
Inflation was the watchword of 2022, and this doesn’t look like it is going to get much better very quickly.
In global terms the outlook is beginning to vary, with signs that price rises are beginning to slow in regions such as the US. But in Europe it is unlikely to get much better quickly.
This is because the inflation crisis in Europe and the UK is much more closely associated with energy prices, than in the US where inflation is predominantly a hangover from the COVID-19 pandemic.
Because of the war in Ukraine, energy prices are going to stay higher for longer thanks to limitations on the supply from Russia, on which many European countries had become all too reliant upon in the past few years.
High energy prices are pernicious for the economy because they impact just about everything else in our lives – from powering and heating our homes to the input costs of making and transporting the food we eat, or just about anything else – it all requires energy. If that energy costs more, so will everything that relies on it.
In terms of practical forecasts, the Bank of England sees the consumer price index (CPI) inflation beginning to fall slowly from early next year – but that it will take around two more years to reach its target level of 2%.
So, expect pressure to begin easing, but to persist for some time to come.
Interest rates
This forecast will have direct implications for the level at which the Bank of England sets the base rate. The Bank has hiked the rate hard in the past few months to try and get inflation under control.
However, now it sees inflation beginning to slow its progress, it’s likely that its rate hiking path will also start to ease, as it waits to see the effect on the economy. The Bank has warned that it thinks investment markets are pricing in too many hikes, but those expectations have yet to come down.
The current expectation is that the Bank of England will reach its ‘terminal rate,’ i.e. the high point of interest rates in the cycle of rises, at around 4.25% – it is currently 3%. So, expect more rises to come, with more expensive credit, mortgages, and better savings rates.
Economy
Interest rates and inflation have a major impact on the health of the economy. The Bank of England has already predicted that the UK economy is in a recession, but at the time of writing this is unconfirmed.
An official definition of recession is two consecutive quarters of negative economic growth. The UK did contract by 0.2% between July and September, according to the Office for National Statistics.
If the economy does continue to contract, inflation could come down more quickly than expected as people stop spending to protect their core assets. Unemployment could also begin to rise, something we’ve yet to see much sign of despite tough economic conditions already prevailing.
The Bank of England ultimately predicts that we’ll go through one of the longest economic recessions on record. But the good news is that it expects this recession to be relatively shallow compared to others, with GDP ultimately not falling more than 2.5% in its projections. By contrast the Great Financial Crisis saw the UK economy fall by around 6%.
Taxation
The health of the economy has a direct impact on how the Government plans and organises its economic plans and taxation measures.
As we’ve written elsewhere this month, the Government has hiked taxes and cut allowances already to help it balance its budget.
But if economic conditions worsen then the Government might feel compelled to tighten tax rules further in March to bring in more money.
There has been much debate about whether or not raising taxes as the economy contracts is a good idea, but the reality is that the Government has to pay its bills or else cut services. With its debts getting more expensive thanks to rising rates, it faces little else in the way of choices.
Housing
The property market is one of the most high-profile casualties of rising rates, and has been further impacted by the financial and bond market implications for mortgages caused by the disastrous mini budget in September.
According to Halifax Bank, house prices fell 2.3% in November, the biggest monthly drop since the financial crisis in 2008.
Unfortunately for homeowners looking to sell in the next year, this situation is unlikely to improve significantly. That being said, mortgage rates have improved somewhat since the worst effects of the mini budget eased, making it slightly easier for prospective homebuyers.
But the overall economic issues, inflation and interest rate rises combined could depress prices for the foreseeable future, after many years of explosive growth.
Investing
It has certainly been a tough year for investments, from equities to bonds – nothing has gone unaffected by rising rates.
While it is impossible to predict where investment markets will go, what is consistently true is that there will always be good opportunities available, especially for those that use carefully planned wealth management to achieve their long-term goals.
It’s important to remember that building wealth through investing is a long-term pursuit, so the short-term impacts of market movements have to be managed with a bigger-picture perspective in mind.