Understanding Inflation and how you can protect your money from inflation
What is Inflation?
It is a common belief that saving your money is a smart way to stay strong in the face of a financial crisis. In fact, the old saying: “remember to save for the rainy days” still holds water in the present day. There is a lot that saving can do for you: it can help you deal with emergency financial situations without borrowing.
However, while saving can be a smart financial habit to cultivate, it is important to mention that money saved in the bank is at risk of some economic factors. For example, not many people today know that their money can actually lose some value when they save it in the bank. This is often due to many economic reasons, especially inflation.
Inflation is a reduction in purchasing power of money over a given period due to the general increase in the prices of goods and services.
Interestingly, inflation is not always negative: it can have both negative and positive impacts depending on how you store your money or the assets you have. When inflation hits, the purchasing power of your savings is often reduced, but that also means that the price of your assets will increase too if you have any. As such, people with huge investments can benefit from inflation as it raises the cost of their assets.
What causes Inflation?
While there are many causes of inflation, the major ones include the following:
Increased Demand
Overly high demands for goods and services can result in a type of inflation called demand-pull inflation. As the name suggests, demand-pull inflation occurs when an increase in the supply of money causes the overall demand for goods and services in an economy to increase more rapidly than the economy’s production capacity. Such a situation implies that higher demand and less flexible supply would cause the prices of the available goods and services to increase.
Increase in Production Cost
When businesses spend more money on producing goods and services, either by paying more for labor or paying more for raw materials, they are more likely to increase the prices of the goods produced to maintain their profit margins. This often results in a type of inflation called cost-push inflation.
The implication is that consumers will have to spend more on a product, consequently reducing the value of their earnings and savings.
Increased Inflation Expectations
Whenever inflation rate is predicted to go higher, it leads to another type of inflation called built-in inflation. It is a type of inflation that is related to adaptive expectations, the idea that people expect current inflation rates to continue in the future.
As soon as inflation rate rises, it becomes quite difficult for things to go back to normal, because everyone is expecting prices to keep increasing. When people look forward to inflation, their actions could be responsible for inflation.
For example, as the prices of goods and services increase, craftsmen and service providers expect that they will continue to rise in the near future at a steady rate and charge more for their services to maintain their standard of living. Their increased wages often result in a higher cost of other goods and services.
Printing More Notes
Sometimes, the government can resort to printing more money to pay off the national debt or increase the amount of money in circulation. This can increase the inflation rate due to oversupply. The reason is that the supply of funds significantly affects the prices of goods and services because people have more purchasing power.
How to Protect Your Money from Inflation
You cannot prevent your country’s economy from experiencing a rise in the inflation rate. This is because many of the economic factors that trigger inflation are usually beyond your control. The most recommended way to combat the effects is investing in valuable assets, you want to make sure the returns on the investment you’re making continually beats the inflation rate.
Here are some investment ideas:
Invest in Real Estate
It is generally believed that inflation is unfavourable to everyone. While this is true to some extent, it is not always the case. Investing in real estate is an excellent way to shield yourself from the hurting effects of inflation. The simple reason is that real estate thrives in times of high inflation. As the prices of goods and services continue to rise, the overall value of your real estate asset would appreciate significantly too. For example, if you own a house, increasing the rent slightly in the face of inflation could be an easy way to stay at the same pace as inflation.
We will be discussing a step by step guide on investing in real estate in a future blog post.
Invest in Commodities
As a rule of thumb, inflation increases the price tags attached to raw materials like metals, oil, minerals etc. Therefore, investing in commodities like oil and metals can be beneficial when inflation rates increase. While you can protect your cash by investing in raw materials, you should do enough research to understand the risks involved.
You might want to consult a financial advisor or an industry expert when making such investment.
Invest in Gold
Investing some funds into gold might not be very effective in protecting your money from increased inflation in the short term. However, it is a method that can help you survive inflation in the long term.
You can check Gold's historical price data on the Yahoo Finance link below:
To invest in Gold, you can either purchase Gold physically or invest in shares of an ETF (Exchange Traded Fund) that replicates the price of Gold. One of such popular ETFs is SPDR Gold MiniShares (GLDM). You can learn more about the ETF in the link below.
Key Takeaways
- Inflation is a reduction in purchasing power of money over a given period due to the general increase in the prices of goods and services.
- Inflation is not always negative: it can have both negative and positive impacts depending on how you store your money or the assets you have.
- Depending on their causes, inflation is sometimes classified into three types: Demand-Pull inflation, Cost-Push inflation, and Built-In inflation.
- Those with tangible assets, like landed properties or stocked commodities, may like to see some inflation as that raises the value of their assets.
Final Words
High inflation can be alarming. It is essential to pay attention to the various factors that cause inflation. Nonetheless, some people can benefit from inflation. Investors with assets that inflation affects positively can enjoy significantly when an economy experiences an increase in inflation rate. Overall, investing is the best bet to combating inflation.
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