Inflation has been increasingly in the headlines lately. Some pundits say it’s temporary. Others say it could lead us back to the economic doldrums of the 1970s. And there are those who remind us that hyperinflation can lead to chaotic social changes.
Before you decide who to listen to, you need to be sure you understand what they’re talking about.
Most people know this basic concept: inflation is when prices go up. However, prices are fluctuating all the time. When inflation makes the news, it’s because the cost of a specific set of goods has risen over a defined time period. The official tracking mechanism for these goods and time periods is known as the Consumer Price Index (or CPI).
Measured by the U.S. Bureau of Labor Statistics, the CPI is reported monthly. The Bureau compares prices for the same goods month-to-month and year-to-year. The annual rate of inflation is the one most cited.
The goods whose cost is measured are essentials that people living in an urban area are most likely to buy. These are things like food, gas, clothing, cars, medical care, utilities, and housing. Because the cost of certain categories tend to rise and fall each year, these prices are seasonally adjusted.
As you may have noticed, prices have risen at a significantly higher rate over the past year. And this has been reflected in the CPI. Where the annual inflation rate has been typically around 2%, over the past twelve months it’s gone up 5.4% That’s more than twice as high.
So what’s causing this inflation?
The simple answer is that people have shown a willingness to pay more and so prices have risen to reflect that. Because of the pandemic, there have been disruptions in the supply chain, and things that are scarce (or perceived as scarce) and in demand have been selling for higher prices.
For example, several months ago, lumber prices spiked as supplies dwindled at the same time people stuck at home decided to begin building projects.
Putting more money into circulation also contributes to inflation. As lockdown rules eased, lots of people with pandemic relief money in their accounts decided to buy cars. As a result, prices for new and used vehicles have risen dramatically.
It’s easy to talk about inflation in an academic way. But quickly rising costs are hard on people whose pay does not keep up with the cost of living. This is one of the reasons the Federal Reserve aims to manage monetary policy in order to keep inflation in check.
The big question about the latest inflationary trend is: Is it temporary? Already some prices in the CPI are leveling off. And economists point out that our steep annual rate is in comparison with last year’s depressed prices. But nobody knows whether a higher rate of inflation is here to stay or not.
Since future inflation trends are unknowable (along with all other future trends), the prudent investor will have a broadly diverse portfolio, which includes asset categories that have historically outpaced effects of rising prices over meaningful time periods.
And of course, people need a trusted financial advisor to help make any need adjustments to a long-term plan.
Make an appointment today to see if we could work together.
