The consumer price index, the country's official measure of inflation, rose 0.3 percentage points in May to 3.3% - 1.3 points above the 2.0% target. And the retail price index, which includes mortgage costs and council tax, is now running at 4.3%.
This is placing increasing pressure on the Bank of England's Monetary Policy Committee (MPC). It cut interest rates three times between December and April in a bid to prevent the economy from slowing too sharply but now, even though the economic data remains weak, the MPC looks set to raise rates in the coming months as it tries to bring inflation back down.
While potential rate increases would be bad news for homeowners - putting monthly mortgage repayments up - it should mean higher savings rates.
Savings rates are already the highest they've been for years, yet millions of people are in fact losing money on their savings because of the impact of inflation.
How inflation affects your savings
Banks have turned to retail savers as a way of plugging the gap caused by the liquidity shortage on the wholesale markets. This has resulted in some incredible savings rates - the best fixed rate bonds are paying in excess of 7%. However, even with these accounts those in the higher-rate tax band are receiving a negative return after tax and inflation.
Most savings rates are advertised in gross form - that is before income tax is taken into account. In order to effectively 'make a profit' on your savings, you need to move your cash into an account that pays more than the current inflation figure after taxation - 20% for those in the basic tax band and 40% for higher rate taxpayers. With RPI currently running at 4.3% a basic rate taxpayer needs a savings account paying at least 5.4% in order to earn a positive rate of return. Those in the higher-rate band need an account paying more than 7.15%. Anything less than this and you are effectively losing money in real terms.
Higher-rate taxpayers should therefore make the most of individual savings accounts (Isas) which are tax-free, or one of the leading regular savings accounts such as Alliance & Leicester's (A&L) Premier Regular Saver or Halifax's Regular Saver as this is the only way they can currently earn a positive return on their savings. - therefore the headline rates reflect the interest you will actually receive. Savers can now invest up to £7,200 a year tax-free and £3,600 of that can be held in cash - that's an increase from the £3,000 limit in previous years. With increased allowances available and close to a full year (the tax year begins in April) to build up savings, this is an opportune time to capitalise on Isa rates albeit the market isn't quite as competitive as it was two months ago when 10% rates were grabbing headlines.
You can invest up to £3,600 a year in a cash Isa and HSBC's Cash E-Isa has the market-leading rate at 6.25% for investments beginning at just £1. You need to have an HSBC current account and it doesn't allow transfers in, but you can set up monthly payments into the account from as little as £10.
Barclays also offers 6.25% on its Tax Haven Isa but that does include a 1% introductory bonus for the first 12 months and there is no internet access with this account. The nearest competitor is the Icesave Easy Access ISA, which offers 6.10%.
Alternatively, A&L's Premier Regular Saver is paying 12%. The rate is fixed for a year and you can pay in up to £250 a month. However the account is only available to those who open a Premier current account.
Another great deal is Halifax's Regular Saver which is paying 10%. This is also fixed for a year and you can pay in up to £500 a month.
What else is available?
Basic-rate taxpayers have a wider choice as they need to earn just 5.4% in order to generate a positive return on their savings.
In addition to the Isas and regular savings deals mentioned above, there are also a number of easy access accounts and fixed rate bonds, offering greater returns.
At the top of the tree for easy access savings accounts is the Birmingham Midshires (BM) E-saver account Issue 2 offering 6.52%, closely followed by Bradford & Bingley (B&B) Internet Saver Issue 3 and Manchester Building Society Premier Bonus Issue 3, both offering 6.51%. Unlimited transactions are permitted on the BM account, but the Manchester Building Society account restricts you to four withdrawals per year without notice or penalty. The B&B deal offers penalty-free withdrawals via BACS to a nominated bank account.
A cluster of accounts all offering 6.50% follow - the Abbey Instant Access Saver, the Alliance & Leicester Esaver, the Kaupthing Edge Instant Access Savings Account and the Abbey Esaver direct. Both the Abbey Instant Access Saver and the Kaupthing Edge deal have no withdrawal restrictions, but the A&L account will not pay any interest during a calendar month when a withdrawal is made, with the exception of July. The Abbey Esaver Direct only pays 2.75% interest during a month in which a withdrawal is made.
If you want to pick up a rate paying in excess of 7.0% you'll have to be prepared to lock your finances away for a year or more. This might not be a bad thing; even if Bank rate does rise it's unlikely to get anywhere near the present rates of interest being offered by the leading fixed deals.
At the moment, Nottingham building society's Fixed Rate Bond and FirstSave First Bank of Nigeria Fixed Rate Bond offer the market-leading rate at 7.10%. With FirstSave, you can choose to lock your money away on either a one-year, two-year or three-year bond with the same rate of interest. With Nottingham building society, the rate is fixed until July 1 2009.
Both Icesave, with its One Year Fixed Rate Savings Account, and Kaupthing Edge, with its Fixed Term Deposit Account, also offer competitive rates at 7.01%.
However, if you prefer to bank closer to home, several providers have moved to keep up with the competition. Anglo-Irish Bank is offering a nine-month Fixed Rate bond at 7.06%, West Bromwich building society is offering a rate of 7.05% on its E Bond 13, and savers can lock into Yorkshire building society for two years at a rate of 7.0%. Bradford & Bingley meanwhile offers a choice of one-, two- and three-year bonds, also at a rate of 7.0%.
If you are over 50, Principality building society offers a two- or three-year fixed rate bond at 7.15%, although the minimum investment is £10,000.
Use our savings comparison tool to compare more rates whether you're interested in a fixed deal, easy access or an Isa.
Tips to cope with inflation
It seems we're only at the tip of the iceberg as far as inflation rises are concerned. In fact, research by Moneysupermarket suggests the real cost of living is closer to 9.5% once council and mortgage costs (not included on the Consumer Price Index) and surging fuel prices are taken into account.
So what, other than move to a high-interest paying savings account, can the average family do to cope? Here are five things well worth your while:
Housing - Many homeowners on a variable rate haven't seen the benefit of Bank rate reductions with lenders not passing on the returns in full. Now with the real possibility that Bank rate may rise, it could be time to fix your mortgage - as our mortgage expert John Myers discusses here. For advice tailored for your individual needs call our mortgage experts on 0845 345 5705.
Energy - Some analysts are forecasting that the average energy bill could increase by as much as 40% this year. With further price rises predicted it could be time to move to a fixed deal, though online monthly direct debit deals remain the most competitive. On average, British Gas Click Energy 5 is the cheapest tariff in the UK but to move to the cheapest deal based on your consumption and the area you live, use our gas and electricity comparison tool.
Food - Essentials are now at their highest prices for 18 years. Use online comparison websites to find cheaper deals and avoid buying more than you need. If you can consistently pay off your balance each month, sign up for a rewards scheme or use a cashback card such as the Tesco Clubcard Credit Card, the Asda Credit Card and the Sainsbury's Bank Credit Card, all of which could help you save on your supermarket spend.
Motoring - Shop around for cheaper fuel by using petrolprices.com and find the cheapest forecourt in your area. Also check out Steve Willey's article 'save pounds on fuel costs' to find out how you could earn money back on your fuel spend, and read Andy Leadbetter's article 'ten ways to cut motoring costs' for further savings on everything from car insurance to breakdown cover.
Holidays - Air fares fell in April in one of the few bright spots on the inflation front. Shop around for cheap flights, accommodation and car hire. Also consider taking an annual travel insurance policy if you take more than one trip a year and shop around for the best rates on travel money instead of waiting until the last minute and being charged hefty commission at the airport.
Have your say: Have you found an excellent savings deal on the market? What is your opinion on the best deal for savers? Do you have any inflation-busting hints and tips? How are you coping with rising prices? Share your experiences and comment in our forum.
Disclaimer: Please note that any rates or deals mentioned in this article were available at the time of writing.
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