Cheaper bread, milk and petrol: why inflation matters to you

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Woman in supermarket

Savers and cash-strapped families rejoice: the rate of inflation, as measured by the Consumer Prices Index (CPI) slumped to just 1.5% in May, down from 2.7% this time last year.

And while that might not sound very exciting, the impact on your everyday life is enormous.


What is inflation and how does it affect me?
The rate of inflation is the rate at which goods such as bread and petrol, as well as services such as train fares, go up in price.

And the impact on the amount you pay for everyday items can be huge.

Between 2002 and 2012, for example, the price of a second class stamp shot up from just 19p to 50p.

And between 2008 and 2011, when inflation was rising, the amount an average family had to spend on food, fuel and utilities soared by almost £240 a year.

Consumers are not the only ones who lose out when inflation is high, though. Savers have also struggled to even maintain the value of their nest eggs over the last few years, thanks to a period of low interest rates and high inflation that now appears to be coming to an end.

However, the bad news is that wages are also down - meaning that many families are no better off than there were last year.

Catherine McKinnell MP, Labour's Shadow Treasury Minister, said: "The fall in the rate of inflation is welcome, yet most people are still feeling the squeeze. Wages after inflation have now fallen by over £1,600 a year under David Cameron."

How do government and central banks control inflation?
Central banks such as the Bank of England try to control inflation using interest rates.

Rising inflation happens when the amount of money being spent is higher than the volume of output produced by a particular economy.

And the best way for banks to control how much people spend is to increase interest rates so that borrowing becomes more expensive.

"A reduction in interest rates makes saving less attractive and borrowing more attractive, which stimulates spending," the Bank of England said.

"Lower interest rates can also boost the prices of assets such as shares and houses and affect the exchange rate."

The fact that inflation is falling may therefore mean the Bank feels there is no need to increase interest rates just yet - despite governor Mark Carney suggesting last week that they might go up sooner than expected.

Ben Brettell, senior economist at financial adviser Hargreaves Lansdown, said: "Below-target inflation has so far given the Bank of England scope to keep interest rates on hold, and this further fall to 1.5% would appear to continue that trend.

"Last week governor Mark Carney warned that rates could rise sooner than expected – this doesn't look so likely now, though one would assume Mr Carney had seen the inflation figures before making his speech."

Is low inflation always a good thing?
In a word: no. If the rate of inflation falls too far, there is a risk of slipping into deflation, when prices persistently fall.

This has been the case in Japan, which has struggled to escape from a cycle of falling wages and prices making people fall behind with their debt payments and stop buying goods and services, further weakening the economy.