What is inflation? To really understand inflation, you need to know what money is and why we use it. Money represents the value of hard work and the production of things that other people want to use. The measurement of this production or hard work is done with units of money. If I spend $ 20 to buy a can opener, that $ 20 represents an hour of work serving food in a restaurant as an example. You can see this by looking at a job that pays hourly wages, and then taking those wages and buying things you don’t produce to get all the things you need for a living. The backbone of this idea is trading and exchanging goods, because it may not be possible to do everything you need yourself.
People’s assumption is that $ 20 today is $ 20 tomorrow. Actually, it is not. The prices of things change constantly, and the value these $ 20 can buy depends on when you use them and what you buy with them. Do you want proof? Look at the price of food, gas, education, rent, utilities, and many household items and services over time. Prices go up most of the time for most items, and these $ 20 are bought less and less each year. To see a drastic comparison, in 1920, $ 20 bought him a new suit, belt, and pair of shoes. Today, this $ 20 can buy you just one belt. Inflation is when prices are rising and it takes more money to buy things of the same quantity and quality. Deflation is when the same money buys more things of the same quantity and quality. This has been happening with technology, clothing, and internet shopping as some examples.
Inflation is also defined as the rate at which prices increase and the rate at which the value of the dollar falls. What can you do about it? In the 1970s and 1980s, he received raises at his job each year that were at least equal to the rate of inflation or the rate at which the value of the dollar fell. This allowed him to buy the same things for the same amount of work he was doing. For example, if you earned $ 20 an hour in 1970, you can buy 5 liters of milk for $ 20. The following year, the price of milk increased to $ 21 and your salary would increase to $ 21, and you can buy the same amount of milk. for an hour of work. If you are an investor, you would deposit money in a bank account with an interest rate equal to or higher than inflation so that you can buy the same or more goods with the invested capital. If you were a homeowner, you would increase your rent by 5% to offset your 5% increase in expenses, so your rental property would generate the same amount of profit despite inflation.
What if you don’t get this increase or the investments don’t pay a return equal to inflation? The value of the work you are doing becomes less valuable or the amount of goods you can buy for your work decreases. The value of investment capital also loses value over time. If this trend continues for a long period of time, your job will not allow you to buy much and you will come close to slavery. Once the capital decreases to the point that nothing can be bought with it, this is called insolvency.
The solution is to find labor, investments or assets that will maintain their purchasing power despite inflation. For work, it is to get wages that would go up every year. For investments, the return on income or the growth rate must be greater than inflation. For assets, these would be physical and tangible things that would still be useful despite the value of the currency. These are assets that people always need: food, water, shelter, land, productive capacity (tools, equipment), and precious metals for use as currency.
How do you know the effect that inflation is having on your purchasing power? You need to see how much your income or equity increases each year compared to how much the things you need increase in price each year. The government publishes an average number called the Consumer Price Index (CPI) that is supposed to capture this for the average person. To know your personal impact, you must calculate the amounts of your income and expenses as they change over time, preferences, and income-earning ability.
