The end of the cost of living crisis?

Has Britain’s cost of living crisis finally come to an end? That’s the question tantalisingly raised by today’s inflation statistics, which show the cost of living has fallen from 1.9% in January to 1.7% in February.

That fall, largely driven by drops in transport costs, means the cost of living is rising at the slowest rate in four years. The big question, however, is not just over what’s happening to inflation, but what’s happening to wages. For the big issue facing families over the past few years has been that high inflation has coincided with very low wage increases.

The upshot is that for the average household, real wages (wages minus inflation) have been falling. In other words, salaries have not been increasing fast enough to compensate for the fact that life has been getting more expensive. And if you look at the most-commonly used measure of wage increases, that gap between earnings and inflation remains in place: annual wage increases, excluding bonuses (which distort things), were 1.3% in the three months to January.

However, as you’ll probably have noted, this is a three-month average. It turns out that if you simply look at the latest month for wage data, then wages increased by 1.8% in the year to January. In other words, on this basis, wages are increasing faster than inflation (if, that is, you assume that they will be at the same level when the February wage figures finally land). And this is the first time one can say this, comparing these series, since September 2009.

It so happens that private sector wages (which account for over 80% of the workforce) are also increasing faster than inflation.

Either way, what’s clear is that the cost of living crisis is coming to an end. As with most economic phenomena, there is statistical noise that makes it a little difficult to judge precisely when the crossover point occurs. But the best guess is to say it is happening now, and that by the second end of the year, wages are likely to be comfortably higher than inflation.

That will clearly change the political dynamic: the cost of living crisis has been one of the main elements of Labour’s attacks on the coalition. Though people will continue to be concerned about prices for some time (they always are), the fact that wages are at last rising in real terms may well diminish the potency of the strategy.

UPDATE 12:00

Tony Yates rightly points out that even when the rate of wage inflation is rising faster than prices, the average salary will still be some way short of where it would have been. In other words, the cumulative effect of four and a half years of weak salary increases will still weigh on the population for some time.

You can see the point in the chart above. It simply compares the levels of wages (green line) to what they would have been had they kept rising at their 2000-2005 average of 4% a year (blue line). On this basis, levels of wages are not only about 3% shy of prices (in comparison with 2005), they are also about 15% lower than they would have been had they kept increasing at their pre-crisis rates.

In other words, there is still a significant shortfall in wage levels compared with inflation levels. Let alone with their normal trend. Even though the rates of change have converged, this cumulative deficiency will take some time to mend.

PS the May 2005 date is a pretty arbitrary one – it’s when the CPI numbers are rebased to.