High Inflation…What is it good for?

You guessed it…absolutely nothing.

The reason that I have chosen to speak on more of a macro-topic is because of where inflation is at right now in the US and UK.

Below you will see a chart of the USA’s monthly inflation rate. Just by looking at the rate at which it has increased in such a short period of time, you may hear alarm bells going off in your head.

Source: Statista

From 1-5% in a year?! Inflation has not been this high for a fairly long while now.

So why could this be a bad thing? It will fall down to a number of reasons…

Income redistribution:

One risk of higher inflation is that it has a regressive effect on lower-income families and older vulnerable citizens who might be living on a fixed income. If prices are rising faster than wages, then there will be a steep decline in real incomes. Inflation tends to redistribute income and wealth towards groups who are better able to hedge against inflation by sheltering their assets in ways that earn a decent return.

Negative real interest rates:

If interest rates on savings accounts in banks are lower than the rate of inflation, then people who rely on interest from their savings will be poorer. Real interest rates for millions of savers in the UK and many other countries have been negative for at least four years. Hyperinflation destroys the value of savings and means that many families are exposed to high interest-rate debt.

Increased cost of borrowing:

High inflation may also lead to higher borrowing costs for businesses and people needing loans and mortgages as financial markets seek to protect themselves against rising prices and increase the cost of borrowing on short and longer-term debt.

Government spending:

High inflation puts pressure on a government to increase the value of the state pension and unemployment benefits and other welfare payments as the cost of living climbs higher.

Inflation expectations and wage demands:

High inflation can lead to an increase in pay claims as people look to protect their real incomes. This can lead to a rise in unit labour costs and lower profits for businesses. However no all workers belong to strong trade unions who can use collective bargaining power to bid for higher pay. A rise in actual inflation can lead to an upward shift in inflation expectations (which can be modelled using Phillips Curve analysis) and once inflation is embedded into an economy, it can be difficult to eliminate.

Business competitiveness in domestic and international markets:

If one country has a much higher rate of inflation than others for a considerable period of time, this will make exports of goods and services less price competitive in global markets. Eventually this may show through in reduced export orders, lower operating profits and fewer jobs, and also in a worsening of a country’s trade balance. A fall in exports can trigger negative multiplier and accelerator effects on real national income and employment.

Business uncertainty and planned investment:

High and volatile inflation is not good for business confidence partly because firms cannot be sure of what their costs and prices are likely to be. This uncertainty might lead to a lower level of capital investment spending which might then damage a country’s productivity growth and long run productive potential.

Social costs of high and volatile inflation:

It puts severe pressure on democratic institutions and can lead to growing political protest and social unrest. Falling real living standards can prompt a brain drain of some a country’s most able and mobile people leaving the country with a diminished labour force. Higher inflation can bring an end to progress in reducing poverty.

Functions of money

Hyperinflation destroys the internal purchasing power of money and undermines its value as a medium of exchange and as a unit of account. Alternative currencies that at least hold some of their value may take the place of the domestic unit of exchange and shadow markets with products traded at unofficial prices often become the norm.

With all of this new knowledge in your possession, it is definitely worth keeping in mind that as long as you put your money to work, the better your chances are at combating the impact that rising inflation rates could have on you.

Our very minimum goal is to gain a return on our invested capital that surpasses the rate of inflation; this way, the value of your savings does not diminish. I wish you all the best in doing so. As always, consult with a financial adviser before making any investment decisions, happy trading and of course…

…stay Wild.

—TheWildtrader