Growing inflation is always in the news when the official inflation-rate is high. Like in the supermarket, from one day to another, mean prices raise at high rates. Everybody can suddenly find himself in a market of limited availabilities. When the basic needs are too costly, the population will be in misery and a country could face significant tendencies to riots. I would like to check what really is inflation, what’s its cause and why nobody should be surprised by rising prices in general. In a second approach i would like to check how one can protect him- /herself from being forced by the market by clever investment decisions.
What is inflation
In short: Prices rise = Inflation.
The measurement of inflation (how much prices rise) is based on a “basket” of goods of general need. A basic need by a human is e.g. food, water, energy (See basic freedom). The goods in the basket are pre-defined by the government (itself a market participant) or a governments central bank (ECB, FED, may be a market participant as government creditor). The goods in the basket are then measured for their cost in the currency by prices and these prices are added to a total cost. The difference to the amount of prices in previous periods is called the inflation (higher prices) or deflation (lower prices).
Quite controversial: I don’t think that is the correct measurement of inflation and I believe there is no possibility to measure it correctly. That is because contents are not fixed.
What is not fixed in the calculation:
- Number of goods in the basket
- Type of goods in the basket
- Goods from other currencies (imports)
- Building of material within goods (goods within goods)
- Definition what’s relevant or not
- Profit margins
- Natures influence (e.g. weather)
- A goods tradability
- Effectivity and control by large corporations
- Demand for senseless goods
(Like when two baskets from EU and Asia are compared: There are totally different items in the basket with different demand. How can you compare that?…)
Where does inflation come from
First, please check Where does money come from?
When there is a large rise in the amount of money within markets and the rise in amount of equivalent value in goods, the prices go up. More money in the circulation makes money to have less value. Therefore, one must pay more for any good. But behind this simple fact resides a quite interesting reason. If only one “rich” person has most money in the world and the never spends it, the money is hidden from the market and the inflation is measured mainly between “normal” people, who in relation have a quite low amount or debt. When suddenly this one “rich” person begins to spend all that amount of money for all kinds of senseless stuff and also paying too much for it, all that money spreads out to the “normal” people. But this senseless stuff is not evaluated in the measurement basket. People who try to sell senseless stuff make a lot of money. These people spend it later on their needed or desired goods and by that these goods rise in price slowly. Companies will set the price higher when there is a higher demand for a product.
Protect your assets by investments
The best protection against inflation are goods, items or commodities, which are always in demand or companies selling those goods. This is, as written above, because the measured inflation (which is always late) will be calculated by the mentioned basket. Senseless stuff might not be a lazy way of protection, because only people with too much money would buy those goods. There are always sellers for that, but if there is not enough money in circulation (if the “rich” are not rich OR if the “rich” are smart) those goods will not be sold, bring no profit to the producing companies and these companies are in trouble. The investment in those companies will also be in trouble.
Another easy way is investment in bonds. Bonds have a fixed interest rate, which should be equal to the common inflation. You cannot become rich with bonds, but there won’t be a devaluation either.
E.g. The measured inflation is 10% per year. You can
- Buy stocks which grow more than 10%
- Do nothing (you lose 10%)
- Buy bonds in the bond-market with 6% interest. (you lose less and win when inflation is lower)
- Buy stocks with 3% dividend and growth potential (you lose less)
- Put money into the bank with 2% interest (you lose)
- Buy energy stocks, have the best protection and destroy the planet (cannot recommend)
- Buy assets of real high interest of common people (outcome delayed)
How the Empire of Rome fell caused by heavy inflation
This is a quite interesting link, I can only recommend to have a look.