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Sunak urged to rescue family finances as households face 10% inflation

inflation
UK chancellor Rishi Sunak as rising prices risk driving a second inflation spike in the coming months. Photo: Tolga Akmen/AFP via Getty

The conflict in Ukraine could risk a second spike in UK inflation this autumn and increases the likelihood of a recession, new analysis has shown.

According to a report from the Resolution Foundation, inflation will hit lower income households far harder than richer households amid rising food and energy prices.

Price growth could surpass 8% — four times the Bank of England’s (BoE) target.

The think tank warned that this could reach 10% for the nation's poorest households, which spend more of their incomes on food and energy. This would mean that the typical family income could fall 4% in real terms in the coming financial year, or about £1,000 ($1,304).

The London-based group called on UK chancellor Rishi Sunak to ease the pain by increasing state benefits by 8% instead of 3.1% from April in his upcoming Spring mini-budget on 23 March.

Resolution Foundation said Sunak had more fiscal room thanks to stronger wage growth among high earners, who pay more tax on every extra pound they earn.

"The chances of a living standards recovery this year are receding as rapidly as inflation is rising, and the risk of another recession is looming into view," said James Smith, research director at Resolution Foundation.

"The chancellor cannot protect Britain entirely from the difficult times that lie ahead, but he needs to act urgently to ensure the pain is fairly shared."

Read more: Energy bills set to rise at least 14 times faster than wages in 2022

The UK could mute the energy price shock by reducing the country's reliance on fossil fuels and moveing towards more cost efficient options.

Inflation is a big drag on consumer and household spending, with Resolution Foundation expecting the weakest year for middle income households in around 50 years.

Meanwhile, cancelling the upcoming increase in national insurance (NI) contributions would affect the bottom fifth of households as over half of the gains would go to the richest fifth of households.

The typical tax gain for the poorest fifth of families would be just £60. This is a tenth of the £600 loss from the current benefit uprating policy, it said.

Postponing the NI rise could cost Sunak £9bn, according to Resolution Foundation. "A much better way to target policies that help those hit hardest is uprating benefits," said Smith. While this would cost around the same amount, it would help the nation's poorest households more.

The Catch 22 study examines Britain's rapidly changing economic forecast ahead of the Spring Statement, and how Sunak might respond to the challenges facing the country.

Borrowing for the current financial year (2021-2022) is due to be £30bn lower than forecast back in October, with tax revenues expected to come in £40bn higher than expected.

The war is also likely to weaken UK GDP growth. "These concerns are clear in financial markets where a simple measure of the risk of a recession has risen to its highest level since just prior to the financial crisis," the think tank said.

The warning comes after the UK economy grew 0.8% month-on-month in January as the disruption caused from the Omicron wave of coronavirus started to fade.

Meanwhile, Sunak warned on Friday that Russia's invasion of Ukraine was creating "significant uncertainty" for Britain's economy as the crisis deepens.

Read more: Ukraine war to push up global inflation by 3%

Separate analysis from the Trades Union Congress (TUC) showed gas and electricity bills are set to rise by 54% when the price cap set by Ofgem is increased in April, while average weekly wages are set to increase by just 3.75% in 2022.

The TUC estimated that record-high energy prices could wipe out the entire value of pay rises this year.

Average wages are forecast to increase by around £1,000 a year in nominal terms, but the rise in the energy price cap in April of £693 will wipe out 70% of these gains.

Watch: Why are gas prices rising?