20-year high inflation fuels rate rise pressure

The Retail Prices Index (RPI) measure of inflation rose to 5.5% from 5.1% in January, its highest level since 1991, and also ahead of expectations of 5.3%.

The Consumer Price Index (CPI) rate of inflation rose to 4.4% in February from 4% in January, driven by increases in the price of fuel, food and clothing, the Office for National Statistics (ONS) says.

RPI is generally considered to be more representative as it includes housing costs, despite the fact CPI is the official measure used by the Government.

The CPI figure, the highest rate since October 2008, is now more than double the Bank's 2% target, and is likely to throw weight behind the argument for hiking interest rates from a historic low of 0.5%.

Stubbornly high inflation in recent months has prompted calls for a hike in the interest rate, which last month was held for the 24th month in a row.

But weaker than expected economic growth figures revealing a shock 0.6% decline in GDP in the final quarter of 2010 dampened this prospect.

Economic theory suggests higher rates cut inflation as people are encouraged to save rather than spend, cutting demand for goods and services, and thus stemming the rise in prices.

The number of policymakers at the Bank who voted in favour of an interest rate rise increased last month but the majority of the Monetary Policy Committee want to wait to see how the economy fares in the first quarter of this year before taking any action.

Why inflation is bad news for savers

People saving money keep it for a rainy day or a special purchase, but also to make that cash grow.

While it will grow even on a 0.01% interest rate, if prices rise by 5.5% in the coming year, your cash will buy you a lot less in 12 months than it does now.

Imagine you've £1,000 in the top 3.01% easy access savings account, after (basic rate) tax you'd have £1,024 in a year – as you've earned £24 interest.

Now suppose that £1,000 is enough for ten weekly supermarket trips. If prices rise by 5.5% next year, you'd need £1,055 to buy the same goods.

So although your savings might have grown, the impact of inflation means what you can buy with the money has fallen, meaning your cash is losing value.

Inflation tracks the previous year's prices. Savers opening a new account are more interested in prices for the coming year.

Why is inflation so high?

Petrol and diesel prices hit new records of £1.29 per litre and £1.34 per litre respectively in February, driven by a rise in oil prices made worse by the recent uprisings in the Middle East and North Africa, the ONS says.

Transport bills, which were up 0.8% since January, were the biggest single factor pushing up CPI, the ONS added.

Utility bills were up 3.1% on the previous year after showing their biggest surge since 2009.

The price of clothing and footwear rose 3.6% in February, a record monthly increase, as retailers brought in bigger than normal hikes following the January sales.

There was some downward pressure on inflation, as alcohol and tobacco became cheaper.

The core rate of CPI, which strips out volatile elements such as oil and food, hit 3.4% – its highest level since records began in 1997.

James Knightley, an economist at ING, says: "With higher fuel costs set to continue adding upward pressure, we see inflation pushing on to 5% in the next few months, which will increase the pressure on the Bank of England to be 'seen to be doing something' on inflation."

Additional reporting by Guy Anker.

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