A refuge from the ills of inflation

CONTROLLING inflation is the task of the Monetary Policy Committee, which consists of Eddie George, the Governor of the Bank of England, and his team of eight good men and women and true. They meet each month and review the latest news and if they think the evidence justifies it they put interest rates up without fear or favour to control inflation, writes Clifford German.

Controlling inflation is not an easy or an exact science, and there is no guarantee that they will succeed. That said, inflation is unlikely even to get near double figures in the foreseeable future.

But inflation can do far more damage to your savings than taxation ever can. If the experts cannot guarantee success, what if anything can investors do? Investors who go into fixed rate investments like National Savings certificates are stuck for five years at the mercy of inflation, most banks and building societies charge penalties on investors in fixed rate TESSAS or term accounts who want their money back early. Even variable rate investments and instant notice accounts do not guarantee to keep pace with inflation, and yields on shares and unit trusts fail to keep up with rampant inflation and could even go down if business confidence is badly affected.

The only safe refuges from inflation are index-linked gilt-edged stocks issued by the Treasury, and index-linked Savings Certificates issued by the National Savings movement. Both the capital and the interest on index-linked gilts and savings certificates are linked to the retail price index, which is the standard measure of inflation in the UK. Until recently only the state could offer a guarantee against inflation and even now only the Birmingham Midshires offers inflation-proofing in the shape of its "inflation-beater TESSA" which pays 3 per cent above inflation and is also free of income tax and capital gains tax if it is held for five years.

The first index-linked savings certificates were known as granny bonds and only available to the elderly, although now they are available to anyone. The interest on the 13th issue of index-linked savings certificates which is now on sale at Post Offices or by post from National Savings is just 2.25 per cent above the rate of inflation current eight months earlier just to make things complicated.

But you can invest anything from pounds 100 to pounds 10,000 in each issue, the value of the investment grows in line with the rate of inflation and the interest itself is also indexed so that you will get 2.25 per cent on the increased value of the capital. Both capital and interest are also tax-free.

Certificates cashed in the first year do not qualify for indexation, but thereafter the indexation and interest are added at the end of each completed month from purchase, and the certificates can be cashed with only a slight loss of interest. After five years they can be cashed in at full value, reinvested in the current issue or kept as an indexed certificate at a slightly lower rate of interest.

Index-linked gilt edged stocks were introduced in 1981. The capital is both indexed and free of capital gains, the interest is indexed and paid half-yearly but is subject to income tax. There is currently a choice of 12 issues, with different coupons, issue dates and maturity dates. For example Treasury IL 2.5 per cent 2001 was issued in August 1982 and is now worth around pounds 200 for each pounds 100 unit and will continue to grow with inflation until it matures in three years.

Gilt-edged stocks in multiples of pounds 100 of stock can be bought from post offices (or via forms available at post offices), through the Bank of England brokerage service (0800-818614) or via the internet at http://www.bankofengland.co.uk