Interest rates are widely expected to rise next year due to a robust economic recovery and rising price inflation.
However, any interest rate rise in 2022 is likely to be more than offset by higher prices.
For savers keeping their money in cash, the impact of price inflation running ahead of interest rates is a deterioration in buying power.
The Financial Conduct Authority is planning to consider new support measures for some of the 8.6 million people in the UK who have more than £10,000 in cash savings, encouraging them to consider investments instead.
A new analysis by insurer Aegon has found that £10,000 in cash savings earning 0.5% interest would lose £337 in its purchasing power if price inflation is at 4% next year.
As a result, the buying power of £10,000 held in cash savings would fall to £9,663 within a year.
If the current trend of high price inflation continues for the next five years, with inflation at 4% a year, then £10,000 saved in cash with an interest rate of 0.5% would be worth £8,427.
However, if the cash savings were invested and received a non-guaranteed return of 4.25% a year, the money would be worth £10,121, or £1,694 more.
Aegon warns that savers risk a false sense of security if interest rates start creeping up.
Inflation is forecast by the Bank of England to average 4% next year, after peaking at around 5% in the Spring.
Read how interest rates are being kept on hold
The Bank of England might hike interest rates due to higher price inflation. Still, it remains uncertain whether banks and building societies will pass on those higher interest rates to savers.
Steven Cameron, Pensions Director at Aegon, said:
“As the economy continues to recover post lockdown, we are seeing a sharp rise in the cost of living. Inflation is currently sitting at over 4% and forecasts suggest it could remain around this level or higher in the coming year, peaking close to 5% in the Spring.
“During a period of high inflation people will notice a dramatic decrease in their purchasing power over time, particularly if their wages don’t keep pace or if they have savings in cash. The Bank of England may respond by hiking the base rate in the coming months, but even if passed on to savings accounts, any increase is likely to be small. Savers hoping for a boost to their cash savings should not be lulled into a false sense of security if interest rates, currently just scraping above zero, rise a little.
“The lurking threat of inflation next year and beyond could far outweigh any small changes in interest rates for those with large amounts of money in cash savings. Following many years of low inflation, people may have forgotten how damaging high inflation can be. But in the coming months and years savers should think carefully about where they put any additional cash that is not needed in the short term.
“The financial regulator, the FCA, has said it wants to explore new ways of supporting some of the 8.6 million people with more than £10,000 of investable assets in cash to consider moving some of this into investments to make their money work harder. Money in investments can benefit from growth which can outstrip the rising prices of goods and services, although this is by no means guaranteed. A financial adviser is best placed to recommend the best investment option based on each individual’s attitude to risk” Read more from the FCA
