Figure Out How Inflation Works

The price of everything keeps going up! What is happening and can I do anything about it?

Prices have been rising in 2022 at rates not seen in the US in nearly 40 years! Why are prices rising and what is this inflation people keep talking about? Let’s all help ourselves better understand what’s going on and what we can do to protect ourselves.

Inflation is a general rise in the costs of goods and services. Not just that, say, the price of wine went up, but that wine, furniture, electricity and hair cuts did. In other words, all the prices go up so the real value of money you make goes down.  

Real value of money is how much it can be used to purchase. Nominal value is a set amount or price, not adjusted for inflation.

This happens almost constantly. There have been periods of deflation in history, when prices go down across the board, but they are rare and usually short. It happened in 2009 at the beginning of the recession, but ended in less than a year. 

Inflation = the constant rise in the general level of prices so one dollar buys less than it did before
Deflation = the reduction of the general level of prices

There have been periods with high rates of inflation in history, where prices went up really quickly. Recently, hyperinflation happened in Venezuela, where prices rose several hundred percent several years in a row.  

Hyperinflation happens when prices rise 50% or more in a month. It is very rare.

Doesn’t this mean our money is worth more now than later?

Over time money devalues. That’s part of why earning interest on your savings and buying things that last is so important. 

Inflation remained relatively low in the US for 25 years before 2020. It wasn’t over 6% in that time and was under 3% in the late 2010.

Prices kept rising, but at a steady rate. For example, most things cost about 2.5% more in 2020 than 2019. Ideally your wages matched this increase.

This has changed in the last two years, of course, and inflation has reached about 8% in 2021 – 2022. That means most things cost an average of 8% more than they did a year before you read this sentence.

(Prices don’t go up evenly, of course, so you may be able to buy some items for the same price as a year ago while others, like gasoline, cost much more.)

Why does inflation happen? 

There are several reasons, though experts continue to discuss why it happens. The prices of some things go up because of scarcity or some issue, say in the supply chain, and it ripples into other items. Overall, scarcity, real or imagined, is a big driver of inflation. 

When there’s a lot of inflation, it may have been caused by excessive growth in the money supply, like the government literally printing too much cash or the discovery of new and large amounts of heavy metals like gold.

This inflationary period has many causes. On the supply side, those causes include issues with the supply chain due factories closing and difficulties moving goods around the world due to Covid restrictions; and the war in Ukraine. On demand side, those causes include pent up demand for services during the pandemic; the government spending money to try to prevent a recession during Covid; and people spending money they did in the past few years have on goods instead of services.

What can we do to protect ourselves? 

Protect yourself against inflation by putting money into interest-bearing accounts, creating good habits that lessen future spending, and by asking for cost-of-living raises.

@jetstreamrebecca

#stitch with @theavocadotoastbudget inflation is crazy right now! Everything costs so much more than before! But why? #inflation #pricesrising #gasprices

♬ original sound – Rebecca Jetstream

Interest creating accounts are your easiest bet. 

If you can, buying a house can be a hedge against inflation, but that comes with its own challenges. 

Create good habits that lessen future spending, like taking care of your teeth to cut back on dental costs. Like so much we discuss, it’s about creating good habits. 

And negotiate everything, especially your salary but also big items like rent. 

To see the change in the value of money over a specific period, try this
inflation calculator from the Federal Reserve Bank of Minneapolis.

Yes, we just really like John Oliver’s recent coverage on inflation. If you want to know more about this topic, we recommend watching it here.

We published a previous video on inflation in July 2020. Watch here.

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