Understanding Inflation And How To Protect Yourself From Its Effects

Understanding inflation and its effects on our household and investment portfolio are crucial. We almost always have some inflation, meaning wages and prices increase which helps job creation and economic growth.

We have had low inflation with relatively stable pricing for years, primarily due to the Federal Reserve’s efforts.  However, the inflation levels are changing as our economy rebounds from the pandemic.

The Federal Reserve’s Actions The Federal Reserve has dual goals: maintaining relative pricing stability and sustainable economic growth with full employment.

It has been difficult for anyone to earn any income in a low-yielding environment without taking on more investment risk with low inflation. For investors with 60/40 retirement portfolios investing in stocks and bonds, respectively, some have shifted more significant proportion into stocks.

What Contributes To Inflation?

Higher Demand Demand-pull inflation occurs when total demand for goods and services in an economy outpaces supply. In the early 1970s, a strong economy caused oil prices to rise and pushed up inflation to 12% in 1974. Strong consumer demand for goods and services could result in higher spending leading to higher inflation.

Increase In Production Costs A different way of rising prices than demand-pull can come from increases in production costs without higher demand is known as cost-push inflation. Higher production costs can come through increased wages, raw materials, depletion of natural resources, droughts, or higher taxes.

Natural Disaster Shortages Prices can rise when shortages in goods and services are associated with natural disasters such as severe weather conditions, droughts, floods, fires, or avian flu. These disasters impact manufacturing plants, businesses, and residential areas.

Government Overspending The US budget deficit has been rising from already high levels since the pandemic to counter the economic downturn. A government budget deficit occurs when expenses outpace revenues, not unlike the household budget.

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