Pensioners protest over rising fuel prices at a demonstration outside Downing street called by The National Pensioners Convention and Fuel Poverty Action on February 7, 2022 in London, England.
Guy Smallman | Getty Images

British households are facing the worst cost of living crisis for decades, as soaring inflation, declining real wages and an energy crisis eat into household incomes.

Inflation in the U.K. has soared to levels not seen for decades, with the latest reading hitting an annual 5.4% for December — the highest it’s been since March 1992.

Welfare payments that are linked to inflation will increase by 3.1% in April, the government announced this month, in line with the Consumer Prices Index reading from September 2021. State pensions will also be increased by 3.1%.

The latest official data showed that average earnings, when adjusted to account for inflation, fell by around 1% in November from a year earlier — the first decline in wages since the height of the coronavirus pandemic.

Meanwhile, taxes on earned income are set to increase by 1.25 percentage points from April to help fund health and social care costs. It’s a move which Prime Minister Boris Johnson is reported to be pushing ahead with, despite pressure to U-turn from lawmakers within his own party

On Friday, data from the U.K.’s Office for National Statistics revealed that between Jan. 19 and Jan. 30, one in five British adults said they had found it difficult to pay their bills over the past month compared to a year earlier.

More than two-thirds of adults also said their cost of living had increased since November, with the most reported reason for this being the increased cost of food. The ONS interviewed almost 3,500 people.

In the four weeks to Jan. 23, grocery prices in the U.K. rose by 3.8% compared to the same period a year earlier, data from analytics firm Kantar shows. The company’s analysis looked at year-on-year price changes of more than 75,000 products.

“Taken over the course of a 12-month period, this rise in prices could add an extra £180 ($244) to the average household’s annual grocery bill,” Fraser McKevitt, head of retail and consumer insight at Kantar, said via email.

“We’re now likely to see shoppers striving to keep costs down by searching for cheaper products and promotions.”

‘Worst is yet to come’

John Allan, chairman of Tesco — Britain’s biggest grocery chain — told the BBC on Sunday that “the worst is yet to come” in terms of rising food prices.

The Bank of England raised interest rates on Thursday, marking its first consecutive rate hike since 2004, in a bid to curb the U.K.’s surging inflation rate.

BOE Governor Andrew Bailey told CNBC’s Geoff Cutmore that the central bank would likely need to hike rates again. The BOE expects inflation to peak at around 7% in the spring — way above its 2% target.

Bailey faced backlash after urging the public not to ask for large pay raises, which he argued would help prevent the inflation rate from spiraling further out of control.

Sonali Punhani, U.K. economist at Credit Suisse, predicted that the Bank of England will tighten monetary policy further this year.

“We think the BoE could hike rates again by 25 basis points in March 2022, sooner than our previous forecast of May 2022,” he said in an emailed statement.

“In the second half of 2022, inflation is expected to fall, which could reduce the pressure on the BoE to hike rates. Our view is that despite the fall in inflation in H2 2022, further monetary tightening is warranted, and we forecast three further rate hikes in 2022 and three hikes in 2023. We think the drop in inflation is likely to slow the hiking cycle, but not stop it.”

Energy crisis

Thursday also saw Ofgem, the regulator for the U.K. energy sector, raise its energy price cap by 54%, meaning millions of households’ annual energy bills will increase by around £700 from April.

Because of the U.K.’s reliance on natural gas as an energy source, the country has been hit particularly hard by a gas shortage that pushed wholesale prices up to record highs across Europe last year.

British Finance Minister Rishi Sunak announced on Thursday that all residential electricity customers would be loaned £200 as a discount on their electricity bills from October, which will later be repaid in £40 installments over five years. He also announced that the majority of households would be given a £150 rebate on their council tax — a levy paid by households based on the value of their home.

But many of Britain’s small business owners have said they are concerned about the future of their companies amid climbing prices.

“The past two years have been absolutely devastating for small businesses,” Danielle McKenny, owner of West Midlands-based skincare company Gaea’s Garden, said in an emailed statement. “While our sales have plummeted, the cost of living and eating has skyrocketed.”

Jenny Blyth, who owns Storm In A Teacup Gifts, said via email: “For the first time in many years I’m scared.”

“The rising cost of living and rocketing food and gas prices mean my usual sales just aren’t enough,” she added. “I don’t have enough money to heat my home and run my business simultaneously. So what choice do I make?”

Meanwhile, Jamie Rackham, who founded a Facebook group with more than 182,000 small independent businesses as members, said many micro businesses were finding it increasingly difficult to cope.

“It’s the perfect storm right now, but [the government] is rudderless and out of touch,” he said. “As ever, the only companies doing well in the current climate are big businesses, while everyone else suffers.”

A spokesperson for the U.K. government told CNBC in an emailed statement: “We recognize people are facing pressures with the cost of living, which is why we are taking decisive action through a £200 discount on bills this autumn and a £150 non-repayable reduction in Council Tax bills, on top of the existing £12 billion of support we already have in place.”

‘Impossible choices’

Food bank charity The Trussell Trust told CNBC via email that reliance on food banks increased in 2021, which wasn’t expected to improve as people face “impossible decisions in response to the deepening cost of living crisis.”

Between April and September, The Trussell Trust gave at least three food parcels every minute to those in need — 11% more than they were providing before the pandemic.

“With inflation reaching a 30-year high, our social security system is at breaking point and essential costs across the board are rising rapidly,” Garry Lemon, policy director at the Trussell Trust, told CNBC in an email.

“To truly help people hardest hit the government must bring [welfare] payments in line with the expected cost of living this April, or risk pushing more people through the doors of food banks. We all need our social security system to act as the lifeline it needs to be.”