Have you noticed the price of a lot of things has been going up lately?
Sudden increases in the consumer price of goods can be a sign of higher inflation rates.
While the most obvious impact of inflation may be the rise in your cost of living, there are other ways the rate of inflation can affect your life.
The best way to protect yourself from the negative impacts of inflation is by understanding how it works and taking steps now to prepare for future inflation and its effect on your household spending habits and buying power.
Read below to learn how you can prepare your household for inflation.
What is inflation?
Inflation is the reduction in the purchasing power of your money.
Basically, it’s the reason a dollar doesn’t go as far as it used to.
While annual inflation rates are typically low, when they rise quickly it can have a huge effect on household budgets and not always in ways that you’ll see right away.
What causes high inflation?
The reasons for a high inflation rate can vary.
Central banks try to create a monetary policy and inflation target that normalizes annual inflation, but sometimes inflation rates will rise more quickly.
This may be caused by rising production costs or a surge in demand, as well as a lack of supply. In some cases, inflation rates may rise during political unrest or times of war.
Typically inflation rises gradually over time and can be difficult to notice.
But there are some signs you can look for as well as preventative steps you can take to make sure your household finances are prepared.
How does inflation affect a household?
Inflation affects all areas of consumer spending, from groceries and gas to travel and entertainment.
As the value of a dollar decreases, the cost of goods and services goes up. This means your purchasing power goes down as well as the cost of borrowing.
When the average inflation rate goes up, so does your cost of living.
While prices going up will affect every household, inflation has the biggest impact on people with a fixed annual income and can cut into their standard of living quickly.
Buying power declines with inflation as the average cost of goods goes up, which can put a large strain on those with a fixed income.
Someone who isn’t prepared for this can find themselves in a tough financial situation as they struggle to maintain their income along with the rising cost of living.
How can you prepare for inflation?
While there are no guarantees when it comes to preparing for expected inflation, taking steps now to be ready will help you avoid the worst of its consequences later on.
The first step is to stay informed about how inflation works and its effects on your household.
Understanding how it affects the broad economy will help you understand why it occurs, what causes it to change, and what to expect from it.
You’ll also want to adjust your household spending habits to prepare for the effects of inflation.
This can be as
Since the cost of borrowing increases during high inflation periods, having a good amount of savings set aside will help you avoid higher interest charges.
It’s never a good idea to rely on credit for emergencies, but especially during times of high inflation increased borrowing costs.
You can never predict exactly what economic or financial situation your household will be in during an inflationary period, but by understanding your current household budget and how future inflation will affect it, you’ll be able to make the right adjustments now to prepare yourself in the future.
Why should you care about inflation?
So, why should you care about inflation?
Understanding how it works and preparing for its consequences now can help prepare you for the future.
Whether there’s a high inflation rate or not, staying informed about inflation and how it affects your household spending habits will help ensure that you’re ready for any major changes in the economy.
For many people, high rates of inflation may be inevitable so it’s important to understand how that will affect your budget and spending habits.
As your household’s average income is directly tied to the value of a dollar, any reduction in its value can have far-reaching effects on your personal finances.
How does inflation affect a household?
When it comes to spending and budgeting, understanding how inflation works is an important part of your financial planning.
Inflation affects everything from grocery spending to entertainment and vacation budgets. High inflation leads to higher prices on just about everything and rising prices make it tougher to stay on budget.
When inflation occurs the value of your dollar decreases over time which means that you need more money to buy the same things.
While wage growth also tends to increase during higher inflation periods, it may not be enough to offset the price increases that directly impact your day-to-day spending.
Start by understanding the basic principles of inflation and how they work – whether it’s because of an increase or decrease in the money supply, changes to how goods are priced, or other causes.
Once you understand why inflation occurs and how it affects your household, you can figure out what things might cost at each point of your life and make a plan for the future.
How does inflation affect your savings?
Many households try to save money for future expenses or emergencies in order to be prepared when unexpected costs come up.
But inflation erodes the value of your savings over time since prices generally rise in the future.
This affects the value of cash the most.
For example, if you keep a bit of money under your mattress for an emergency, it probably won’t buy as much in the future as it does today.
While you have the same amount of money, inflation has caused it to be worth less.
Your purchasing power is reduced since prices will be higher and the value of your dollar lower.
Savings deposited in high-interest accounts may fare better during inflation, especially since banks tend to pay higher interest rates during periods of higher inflation.
But inflation may still reduce your net worth if your savings isn’t growing fast enough to offset the loss to inflation.
Positive impacts of inflation on household budgets
Inflation isn’t all bad. In fact, some economists argue that mild inflation can actually be a good thing.
For example, a small amount of inflation might encourage consumers to make more purchases today instead of saving their money for tomorrow.
This can spur economic growth which can lead to higher wages and lower unemployment.
As another example, if you have a fixed-rate mortgage, you’ll benefit from inflation because the value of the money you borrowed is greater than the money you’re repaying.
Consequences of high inflation
Anyone carrying debt with a variable interest rate is likely to see their minimum monthly payments increase as inflation rises.
This is the case most often with high-interest credit card debt, but it applies to variable-rate loans as well.
Inflation can also be bad for your retirement planning.
It may lower the values of pensions, savings, and Treasury notes, and your target retirement amount must keep pace with any expected inflation to pay for the same quality of life.
With higher inflation, your savings will buy less as time goes on.
Ways to protect your retirement savings from inflation’s effects
Monitoring inflation’s impact on your retirement is important, especially if you hold bonds or Treasury notes.
Fixed-income assets pay the same amount each year, making them less valuable when inflation rises faster than your return.
Some investment vehicles like real estate and stocks will fare better during inflation.
How to inflation-proof your money
Dealing with inflation isn’t fun, but there are steps you can take to protect your money.
Review Your Budget & Cut Expenses
Since inflation causes prices to rise, you may struggle to cut expenses like gas and groceries. Instead, take a look through all your spending to see if there are things you’re paying for that you don’t need or want anymore.
Look for subscriptions or services you can cancel or any free trials you may have signed up for and forgot to cancel.
Sort Out Your Savings
For short-term and emergency savings you’ll want to make sure you’re getting the most interest you can, but still keeping your money easily accessible.
High-interest savings accounts are usually better than your typical checking account, but for any funds you don’t need quick access to, consider investing to get the most inflation-beating return.
Adjust Your Grocery List
While inflation causes a rise in prices in most consumer products, making small adjustments to your grocery shopping can help lower the impact on your budget.
- Switch from fresh fruits and veggies to frozen or canned
- Eat less meat
- Buy dry beans vs canned
- Use dried pasta instead of fresh
Consider Buying Big Ticket Items Sooner Rather Than Later (If You’ve Got the Cash)
Rising inflation often leads to an increased demand for products and services which in turn leads to a surge in prices.
While savings rates do tend to rise with inflation, they may not increase at the same level or even fast enough to keep up.
If you’ve got the funds set aside for a large purchase, it may be better to buy before the price goes up.
Final thoughts on how inflation may affect you
Inflation rates can have a big impact on your personal finances so it’s important to consider how you may be affected when planning for your future.
Understanding how inflation works and taking steps now to be prepared for its effects will help ensure your quality of life now and into retirement.
The more prepared you are for these changes coming into effect over time, the better off your finances will be.