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Inflation: What is it?

Inflation is a word that is not spoken of regularly in our social circles. It has been mostly used in financial professionals’ communication for the last 3 or 4 decades. That has changed over the past few years and inflation is now a common topic of conversation for most Americans and most of the world as well. Wikipedia simply states that it is the general increase in the price of goods and services in an economy. Occasionally, inflation can be isolated to specific industries, for a variety of reasons, but why all Americans are keenly aware of inflation is because food and energy have increased broadly by over 10%. These are expenditures that Americans incur weekly, sometimes daily, so we are well aware that inflation is here and affects us all because these are necessary expenditures, not discretionary ones we can avoid. Overall inflation has ticked down from over 9% but currently is 8.52%.

Inflation: How does it work?

The classic explanation is simply summarized as too much money chasing too few goods. So, the recent unprecedented spending of over $5 trillion dollars on COVID relief combined with supply chain issues from mandated shutdowns and new restrictions and regulations has sparked inflation. Discussing the merits and necessities of the extra spending and the increased regulations and precautions are not the intent of this article; however, the clear facts are that the money supply (m2) has sharply increased since 2020, and the supply of most goods and services have dramatically decreased since 2020. See the chart here graphing the money supply over the last 5 years.

If arbitrarily printing money had no consequences, then why shouldn’t every American just get a basic income of $100,000 every year? The answer is obvious, the value of our money is worth less, and inflation is ignited. Margaret Thatcher said, “The lesson is clear, inflation devalues us all.” So, the temptation of governments is to throw around “free” money as a quick solution to problems, but in the end, the standard of living will decrease, even if you have a little higher income. Economist Milton Friedman said, “Inflation is taxation without legislation”, so consumers have less disposable income and it is more difficult to make ends meet.

So if the government, in conjunction with central banks, could keep the money supply from increasing beyond pre-pandemic levels, that is the first step in controlling inflation. The second government action is facilitating an economy that encourages making goods and services readily available. This is commonly referred to as supply-side economics. Fiscal discipline and a strong supply of products are a proven formula for a healthy growing economy, with low inflation. Ronald Reagan proved this to work and helped pull us out of a difficult inflationary environment, in the early 1980's. One challenge that we still face is that the money supply is still way above pre-pandemic levels, so shrinking the money supply or quantitative tightening still needs to happen, which will also be a blow to markets. Many people focus on raising interest rates to squash inflation, which is part of the medicine that our economy has to take, but shrinking the oversupply of money is part of it as well and will keep the US dollar from losing too much value.

What can I do about Inflation?

Proactive steps can be divided into 2 broad categories:

  • How should I handle my budget and

  • How should I invest in an inflationary environment?

So, we will address budgets first. The first and most obvious step is to not increase your budget, compounding the sting of inflation. This is not the time to add an extra streaming service or finance items that are "wants". Although having at least one car is a necessity for a family, adding another car or buying a new car in this market for vehicles should be avoided.

After confirming that there are no unnecessary increases to your budget, then be diligent about looking for ways to decrease your budget. Look at eliminating some subscriptions, start carpooling, and shop for groceries and consumable items at lower-cost grocery stores and dollar stores. Be creative, if you truly want to trim the budget somewhere, you can find a way.

Also, if you are paying extra on a fixed-rate expense, like a mortgage, now is not the time to be aggressive in paying the balance down. You are actually paying your mortgage at a discount, because inflation can’t swell that monthly cost, like all other new purchases in our budgets. For items that have variable rate borrowing costs that are going up, those should be scrutinized and you should try to apply some savings or “found money” to those payments. Another way to potentially fight rising prices is to sell items around your home that you no longer need or use. Selling items online or doing an old-school garage sale is a way to add some extra dollars to the cash flow. Lastly, looking to work overtime or an extra side hustle can also be an effective way to address the dent that inflation is putting into your budget.

The second phase of dealing with inflation is deciding if you should invest differently. This is a trickier one and not quite as obvious or as much of a science. Two principles to apply are to stay diversified and not abandon your investment plan if you were already regularly investing, pre-inflation days. In very difficult stock market environments, having some non-correlated assets might make sense for you. Typically, bonds are not as correlated to stocks as they have been recently, so traditionally having some bonds, particularly for shorter time horizons is a good idea. In the last year, bonds have not provided the safety that they traditionally have and bonds are currently correlating with stocks, which is down.

I Bonds, REITs, Structured notes, Commodities, and Treasury Inflation-Protected Securities (TIPS) are examples of things you might want to learn more about. If you are a client of Whitaker-Myers Wealth Managers, your Financial Advisor would be more than happy to discuss your accounts and concerns with you. If you are not a client, please feel free to reach out to one of our Advisors and we would be happy to help you in feeling more confident about your retirement planning and saving.

If you have cash sitting in a bank account above your Emergency Fund and are wondering if you should invest it, that is a very good question and one that can be specific to your goals and risk tolerance. Dollar-cost averaging is a great way to buy into the market and get the benefits of buying in over a period of time so that might make sense for you. If you want to hold off on investing it at all until the market isn't as volatile, that might be okay as well but just know that if that is money you are saving for longer-term goals, do not let your emotions get the best of you or overthink it. You will likely not want to wait too long to get it invested. This is because although it is painful to go through an inflationary environment that is disrupting markets, you likely still want to take some risk and be invested in the markets so that you still have a chance to beat these high inflation rates. If you sit in risk-free cash, CDs, or treasuries as a permanent strategy, then you are guaranteed to lose purchasing power. Although there is no magic pill for investors, it is important to seek out your advisor and talk through your current and future financial picture.


October 7, 2022

Matthew Harris

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