I’ve been discussing the pending inflation for going on two years now. Governments have printed trillions of dollars and injected them into their economies. At the same time, economic growth hasn’t kept pace. The result? More dollars chasing the same (or fewer) goods and services. Basics of economics tell us that when demand exceeds supply, prices rise.
Compounding the issue, with so many workers either off the job due to illness or in some cases permanently fired for not agreeing to be vaccinated, the supply of goods and services has been severely hindered. If there is no one to build the product, ship the product, sell the product and maintain the product, it’s much harder to bring the product to market. This again causes inflation because, demand staying constant, reduced supply causes prices to rise.
So what can be done about this?
One tool that central banks use to curb inflation is to raise interest rates. This will have the effect of making borrowing money to spend more expensive, and thus driving down the demand side of the equation. Of course, they can’t raise the interest rates too quickly because a lot of people have taken on large amounts of various kinds of debt to pay for record high house prices, vehicle prices, appliance prices and so on. Raising the interest rates too fast could cause mass defaults, foreclosures and general economic meltdown (See 2008-2009).
Also, making borrowing more expensive means that businesses will borrow less money to invest in growing and thus economic growth will slow, which means less jobs being created.
As you can see it is a very tenuous situation governments have gotten themselves into. It will need to be addressed slowly to not cause any economic disasters, but it cannot be ignored or else we may face 1970’s era inflation (not good).
What can you do about it?
The average everyday person has a few tools at their disposal to manage higher inflation.
- Make sure your salary is being raised at least enough to cover the rising costs of living. In the US and Canada, the published rates of inflation are 5.5-8% this year. Keep in mind those do not include the prices of housing (up 20-25%) and they are biased to be reported low because government social programs and other spending amounts are pegged to reported inflation.
- Adjust your investment portfolio. Certain sectors perform well during inflation – energy, real estate, utilities and precious metals. Others do not like tech, consumer discretionary, banking and health care.
- Borrowing money to invest. I know what you’re thinking – why take on debt when everything is already so expensive? The reason is because when you pay the loan back, the dollars you are paying it back with will be worth less, so as long as you borrow money at an interest rate which is less than inflation, you have “made money” on borrowing money. This is even before you have earned returns from whatever investment you made with the cash. Just make sure that the investment can cover the interest expense on the debt, even if it goes up a little as governments raise rates to temper inflation.
Good luck out there. It’s not an easy economy to be living in from a financial standpoint, but if you apply some of these ideas you might come out the end of it a little better off than your peers.