How inflation is measured
Governments track inflation through price indices. In the UK, the headline measure is the Consumer Prices Index (CPI), which tracks a "basket" of hundreds of goods and services — food, clothing, energy, rent, transport — weighted by how much households typically spend on each. The US uses the CPI-U. The Retail Prices Index (RPI) is an older UK measure that also includes mortgage costs; it typically runs 1–2% higher than CPI. The target for most central banks in developed economies is 2% annual CPI inflation.
Causes of inflation
Demand-pull inflation occurs when aggregate demand in the economy exceeds the economy’s productive capacity — too much money chasing too few goods. Cost-push inflation occurs when production costs rise (energy, wages, raw materials), and businesses pass those costs on to consumers. Monetary inflation links money supply growth to price levels — if the government prints significantly more money without a corresponding increase in goods and services, prices rise. The post-COVID inflation of 2021–2023 was a combination of all three: pandemic supply disruptions, energy price shocks from the Ukraine war, and earlier monetary stimulus.
Winners and losers from inflation
Inflation redistributes wealth. Debtors benefit: if you have a fixed-rate mortgage at 3% and inflation runs at 6%, the real value of your debt is falling — you repay in cheaper pounds. Creditors lose: lenders who agreed a fixed rate are repaid in depreciated money. Savers with cash lose: if inflation exceeds the interest rate on savings, real wealth falls. Asset owners broadly benefit: property, equities, and commodities tend to maintain or increase their real value during inflationary periods, though this varies by the type and cause of inflation.
“Inflation is taxation without legislation.” — Milton Friedman
What this means for you
Holding significant cash savings during periods of above-target inflation means watching your real wealth decline. The standard protection is investing in assets with inflation-beating return potential — equities, real assets, and inflation-linked bonds (gilts/TIPS) for the bond portion of a portfolio. For practical day-to-day planning: if your salary rises are consistently below the inflation rate, your real pay is falling even if the nominal number goes up. When evaluating savings account rates, always compare against current CPI — a 4% savings rate when inflation is 5% still means losing 1% of real purchasing power per year.