Psst...Definitions for words in bold can be found at the bottom of the post.
Depending on how current events-savvy you are, you may have heard talk of inflation lately.
But…what is inflation, exactly? And what do you need to know about it?
Basically, inflation is when your expenses go up faster than your purchasing power.
I’m not talking about expenses going up because you went on a spending spree. Inflation is when the same items become more expensive in back-to-back years.
You might not notice these things, but it’s actually normal for prices to periodically increase. Sometimes the cost of milk goes up a few cents; every once in awhile there’s a “rate increase” notice at the hair salon.
According to the Federal Reserve, a “good” inflation rate is generally below 2% (so inflation shouldn't impact prices more than 2% each year.)
Since inflation is usually under 2%, many employees get a 3% raise each year.
So if inflation is 2%, and you get a 2% raise, you haven't actually gotten a raise. Your money goes just as far as the year before.
And if your salary didn’t go up at all? You've effectively lost money because your dollar can't purchase as much as it used to. Prices are going up, but your income has stayed the same.
Think about it. If you make $100 a year (obviously very simplified numbers here), and your costs are $80 a year, then inflation comes around and raises your costs by 2% (to around $82/year), you actually have less money in the bank even if your income stayed the same. Ya dig?
As I’m writing this article, inflation is around 6.2%, a 30-year high. And the cumulative number is so much worse.
Inflation is often measured by year, which helps reduce the sticker shock. Politicians can even claim they brought inflation down if it was 6.2% and they wrangle it to 5.5%, which is still an extremely high number.
According to Investopedia, the cumulative inflation rate between 2020 and 2023 was a whopping 19.4%.
That means (using our simplified numbers above) if our costs were $80 at the beginning of 2020, they were $99.40 by the end of 2023...But our income is still $100! This drastically changes many people's quality of life. It removes any security barrier they may have had.
The biggest question is…how big of a deal is all this?
Not to be cynical, but people’s opinion often corresponds to their political affiliation. If inflation is bad under a Democrat, Democrats tend to say it’s no big deal; Republicans say it’s a calamity. If the president is a Republican, Republicans tend to say it’s no big deal; Democrats say it’s a calamity.
The truth, as it so often is, is probably somewhere in the middle.
Inflation does need to be closely monitored, or it can lead to something called hyperinflation.
With hyperinflation, expenses become so insanely high it costs like $1000 for a loaf of bread (or $100 billion, in the case of the Weimar Republic, one of the most famous examples of rampant hyperinflation).
It’s important to note that hyperinflation isn’t some wild theory — It has happened many times throughout history, usually under leaders who print money to make people feel richer (as we did during COVID)…but then it devalues the currency beyond all reason.
At the same time, some of the inflation we’re experiencing was expected.
Remember at the start of the pandemic, when everyone was worried they would lose their jobs, their homes, and everything else? Well, the government put measures in place to help mitigate the crisis. Between the stimulus checks, low interest rates, etc., a ton of new money went into circulation.
When there’s more money in circulation, the market automatically adjusts its value.
In economic terms, it’s often referred to as the “invisible hand” of the market.
It’s like if you have one diamond, you’ll probably take extra good care of it, but if you have 1,000, you might not be as concerned if you lose one. With more money in circulation, the value of a single dollar diminishes.
Again, it’s not great, since it means the money you have in the bank loses value (even if the dollar count remains the same). But again, it’s to be expected with the economic policies that have been implemented (under both Democrats and Republicans).
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Definitions/Terms:
Savvy – Shrewd; knowledgeable
Inflation – A general increase in prices and fall in the purchasing value of money (New Oxford American Dictionary)
The Federal Reserve – The banking authority that implements monetary policy for the United States.
Ergo – Therefore
Calamity – Catastrophe; an event causing great and sudden damage
Hyperinflation – Monetary inflation occurring at a very high rate (New Oxford American Dictionary)
Weimar Republic – Basically, what Germany was called between World War I and World War II. Soaring inflation and high unemployment fostered unrest, contributing to the rise of Adolf Hitler.
Rampant – Flourishing or spreading unchecked, usually describing something bad
Mitigate – Make less intense
Diminishes – Becomes less impressive or valuable
Implemented – Put into place
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