Inflation and its impact

15 years ago, the price of bread in Mumbai was 24 INR. Now in 2023, it is priced at 48 INR. That is a 100% increase in cost! It is shocking when you see the numbers plainly. This is a period of 15 years. Let us take a shorter timeframe. The price of milk per litre was 58 INR in 2022. Only one year ahead and the price has skyrocketed to 66 INR per litre.

Now, there are multiple factors causing this rise in prices such as the demand and supply ratio, the Russia-Ukraine War and the health of the Indian economy in general. This increase in prices affects millions of Indians needing to re-evaluate their expenses and make more room in their budget to afford basic commodities.?

Now the term for such an increase is inflation. Inflation is the rate of increase of prices in the economy.?

Factors leading to Inflation

Inflation can occur for a number of reasons. One is the aforementioned supply and demand issues i.e. either there is not enough money to go around or too much money is going around. The cost of business might have gone up. This can happen if one of the commodities went up in value. For example, the price of milk mentioned above was influenced by the cost of cattle feed. Cattle feed prices had gone up in 2022 which was a side effect of the war in Ukraine.

There is also an interesting notion in inflation that it is ‘expectations driven’. This means if people expect high inflation to stay, they prepare accordingly. Let’s take an easy-to-imagine scenario. A lot of people, when calculating their expenses, factor in the rise of inflation for next year and accordingly prepare their savings or try to increase their income. If the price of goods goes up, shouldn’t the person be earning more to afford said goods as well? Now if the person goes to his employer and asks for a raise, the employer will in turn need to increase his revenue margin to keep profits stable. This leads to an entire cycle in the economy due to which a vicious cycle is created. This is known as a ‘wage-price spiral’ in economic terms.?

Now the questions arise. How badly will inflation affect my future? Is there a way for us to control inflation? How do I reduce the effects of inflation on my finances? Is there any good that will come out of this rise in prices? Let us answer these questions in turn.?

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How inflation is affecting your future

India’s economy has been doing well without any major disruptions for the past 5-10 years. Our inflation rate did rise during the pandemic and lockdown period but not by a major amount. The average rate of inflation from January-May 2023 was 5.51% Inflation has been steadily decreasing and was 4.25 in May 2023, a record low in the past 2 years and is predicted to go down further. So, inflation is somewhat controlled in India.

Now, while we have data on what the inflation rates are, there is none available for the rate of salary growth in India. This is because most of the jobs in India are in the unorganised sector (cash economy-oriented jobs, labour jobs, etc). Thus, it is challenging to get an estimate on the current or approximate rate of salary increase. While inflation and salary increases generally move in the same direction and impact each other, they are driven by different inputs.?

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Inflation is defined by changes in the cost of a market basket of goods (such as housing, groceries and fuel). Pay, on the other hand, is driven by changes to supply/demand for labour which can be caused by demographic trends, labour participation rates, unemployment levels, technological advances, and growth in productivity. So, by looking at the statistics of developed countries, it is clear that the rate of wage and income growth is always less than inflation.?

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How the government tries to regulate inflation

As a sole individual, it is tough to even influence such a factor that can make its influence felt across continents. However, the government of a country can adopt several measures to do so.?

One is changing the monetary policy. Reducing the supply of money by decreasing interest rates and the prices of bonds is one method. The supply of money can be decreased. This, in turn, reduces consumption, which in turn makes prices drop which will bring down inflation.

Higher denominations of the currency can be demonetized. Such a step is usually taken when the country has a surplus of black currency, as was the case with India. The central bank of the country will also regulate the quantity and quality of credit. Controlling consumer credit is one of the steps taken by many governments to reduce inflation.?

However, people need to understand that a lot of these decisions need to be taken very carefully! Such rulings can lead to our economic growth slowing down or have some other major invisible side effects. Thus, the government of any country cannot take such decisions frivolously only keeping the short-term in mind.?

How to reduce the effects of inflation on a personal level

If the costs of commodities are increasing, your profit margin will need to increase at the same level.

The easiest way is to invest in assets.

If inflation is causing certain commodities’ prices to increase, simply owning that specific commodity will mean you have an appreciating asset i.e. owning something that is increasing in value over time. Options for such commodities can be gold, real estate, the stock or options market, etc.?

Pick a reliable investment option so that it generates money. It is said that investing in oil, grain, metal, etc fields will give you good returns as during inflation, such commodities have a larger percentage increase in prices.?

Thus, it is imperative that you see your salary grows as close to the inflation rate in India. The need to build multiple streams of income is just as important in today’s time. Having a backup or a fail-safe option will allow you to weather the rough times in an easier manner.

How can anyone benefit from inflation?

Even though inflation is a concept most people do not wish to have in their lives, some individuals will still benefit from it. Inflation makes it easier on debtors, who repay their loans with money that is less valuable than the money they borrowed. This encourages borrowing and lending, which again increases spending on all levels.?

Higher prices push prospective buyers out of the real estate market. People in better financial positions can make use of the falling rates to buy more assets which will regain their value in the future and go even further. A famous example is Warren Buffet, who used the 2008 stock market crash to buy shares in many companies such as Goldman Sachs, General Electric, Swiss Re and Dow Chemical, etc. during the equity downfall. People with higher capital find it easier to make money during economic crises by being smart with their investments and playing the long-term game.?

Often, a lack of inflation can indicate that there is little demand for goods and services, which can lead to slower economic growth. In this digitized world, we are growing more interconnected every day due to globalization, and having multiple streams of income is easier to procure. It is the safest method of circumventing the ill effects of inflation and surviving the crisis. Inflation erodes the value of some assets, especially cash. The stock markets can experience a dip or a service will be priced lower as higher prices effectively create less demand. Eventually, inflation poses challenges for individuals and economies, impacting the cost of living and requiring adjustments to budgets.?

Inflation can have a number of negative consequences, but by being more informed about it, we can mitigate those risks.

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