Impact of Inflation: It’s Not What You Think

There is much misconception about the impact of inflation. Too many people don’t understand the actual nuances behind inflation and its effects on their money. It’s time to end this debate once and for all on how exactly inflation affects your money. It’s not as dire as people think it is.

Too many people see a headline titled, “inflation jumps 6.2%, hitting a 30-year high“, and automatically think “WOW, I need to start asking my boss for a 6.2% raise to compensate for the difference!”. No. That’s wrong. Remember, inflation affects the spending part of your income, it does not affect all of your income.

A 6.2% increase in your expenses may mean you only need a 3% increase in salary to cover the difference. The idea is if you invest the remainder of the savings in investment vehicles that beats inflation, then it’s fine anyway. If you don’t invest the remainder, then others are right.

A 6.2% inflation rate has to equate to a 6.2% raise in order for you to break even from the prior year. However, as astute Filled With Money readers, you know better. You know that the key to a better life is to invest your money and let your money do the work for you.

Personally? I’ve been able to lower and/or stabilize my expenses year over year so inflation hasn’t affected my money yet. When you get to lower expenses while inflation goes up is when you realize you’re winning both ways. You are having your cake and eating it too.

That’s a definite way to accumulate assets and lower liabilities, no matter what the outside world does. That’s financially winning no matter what everyone else is doing that affects you. You can truly only focus on yourself.

What is Inflation?

Inflation is the gradual increase of goods and services in an economy. In 1940, the cost of a Harvard education, including room and board was $924. Today, the cost is close to $52,000. That’s inflation at work. If a college education only costed $924 today without a scholarship, we would question if it’s a scam.

This means that a dollar today does not buy as many goods as it used to as a dollar 70 years ago. Inflation leads to a reduction in your purchasing power and it’s generally unstoppable. As long as population increases happen and the Fed continues to print money, the overall power of the dollar continues to decline.

The impact of inflation is unstoppable. In the long term, one dollar will continue to buy less things as time passes on. There will be deflationary periods here and there that will allow us to buy more things. However, that is temporary. Inflation is permanent and it’s here to stay as long as Earth doesn’t blow up.

Remember basic economics. If there is more supply, then the prices HAS to go down in order to cater to the demand levels. If there is more supply of money, the “price” of money goes down alongside with it. Inflation is the silent killer of your finances. It’s your hard earned money being worth less every year without you doing anything.

Because it will eventually catch up to you, you will have to move up or be left behind. That’s how powerful the impact of inflation is. It forces you to always be improving. Otherwise, everyone else is going to surpass you through no fault of your own and no fault of theirs.

Whether you like it or not, inflation is here to stay.

The Most Commonly Misunderstood Impact of Inflation

So now, let’s go over the most commonly misunderstood impact of inflation. It’s the example with, “because inflation went up 6%, my salary has to go up 6%!”. No, that couldn’t be further from the truth. Let’s go through an example of yours truly to see how true that is.

For my salary, I generally have a salary of $110,000 as explained in my earlier posts. It’s slightly more but for simplicity, let’s keep it to $110,000. I also generally spend between $20,000 – $22,000 per year. Using a yearly budget of $22,000, that means a 6% inflation to my expenses mean a $1,320 increase.

Well, what’s this? A 6% increase in my salary means a $6,600 increase to my gross income! That’s hardly the $1,320 increase that’s needed to break even year over year. This is what’s known as the most commonly misunderstood impact of inflation. I only need to increase my salary by 1.2% in order to break even.

The idea is that with a 1.2% increase in salary, I would save the exact same amount of dollars I would this year than last year. Then all I have to do is invest those savings to the stock market to beat inflation. If that happens, then I am growing in the exact way as I was this year as I was last year.

In fact, if my salary increases by 2%, that means I’m even beating inflation. Contrary to all those articles that say you need a 6% increase in salary to beat inflation, that’s just not how it works. You have control over how inflation affects you, you’re not just dead in the water and have to be a price taker.

Actual Impact of Inflation

The actual impact of inflation is heavily dependent on your salary, budget, and choices. Personally, I lower expenses as much as I can. I actually generally pay less money than the year prior because I either negotiate my bills, find a cheaper provider, or generally spend less money.

I love spending money on fixed expenses because it means I don’t have to spend money on it the next year. Something like clothes. I haven’t bought new clothes in the past 3 fiscal years and I’m OK with that. If you find headlines that talk about the dire consequences of inflation, keep calm.

Understand what the actual impact of inflation is to your budget and do the math yourself to see if what they’re telling you is true. Oftentimes, they just want to make some panic driven article so it drives more eyeballs and traffic to their website. I do want traffic to my website, but not to the point of sacrificing facts for my readers.

Speaking of driving traffic, please SMASH that social share button and post to your favorite social media for your friends! It takes a lot of time and thought to write articles so if you could share this article to get the story right about the impact of inflation for me, I would appreciate it.

But moving on, if inflation will really cut deep into your finances, then consider cutting expenses altogether, instead of reducing your expenses. Maybe that extra $1,000 of expenses due to inflation will mean you have to cut back on actual $1,000 worth of goods and services.

There’s nothing wrong with doing whatever you need to do to get your money in order. It’s all about building your future, dollar by dollar, brick by brick.

How to Adjust to Rising Inflation

So then, these are the actual action steps you can take to combat and adjust to the impact of inflation. Whether we like it or not, goods and services today will ALWAYS cost more in 40 years than the goods and services we have today. So why not try to fight those effects using your own two hands?

While others are spending and propping up the economy, you do the opposite and invest even more money and realize the benefits of others’ spending. That’s how you stay ahead of the curve.

1) Invest

Inflation WILL be a positive number over the long term, no matter what. If prices for goods and services rise, then who benefits from the increase in the prices? Companies. Asset prices are generally expected to rise in accordance with inflation. When I used to go to Chipotle, I could order a burrito bowl and get the tortilla on the side.

I can’t do that anymore, I have to pay an extra quarter to get it. On top of which, the prices for the burrito bowl increased year over year. So if I want the exact same thing as what I would get last year, I have to pay an extra 6 – 10%, depending on the area. That is the impact of inflation affecting me in real life.

I still pay for the bowl. Therefore, the company benefits from my business. What’s been surprising to me in the past year is that employees are quitting at RECORD rates. Yet, people are gladly still paying the inflated prices year over year. If prices are rising and people are paying it, then profits should be rising as well.

Inflation generally, not always, positively affects investment vehicles.

2) Spend Less

I always look for deals. I’m ALWAYS, without fail, a proponent of buying the exact same things of similar quality for a lower price. For example, car insurance. My insurance cost steadily went down over the past five years because I always look for deals. When I first started my car insurance, it would be $550 every six months.

Now it’s only around $300 every six months. And this is AFTER five years of having car insurance, by the way. This is also just one example. This goes the same with phones. I spent $300 buying a used phone this year. I will not be spending the same $300 buying another phone next year, unless the phone breaks or malfunctions.

In general, I successfully lower expenses year over year. This is a good way that I avoid the impact of inflation and stay above the curve. There always seems to be new ways for you to save money, either through good deals, switching providers, and the like. All you have to do is find these opportunities that are everywhere.

3) Consider Debt

This option should ONLY be if you know how to manage it. And don’t be one of those people who say, “I know how to manage debt” while not actually knowing how to manage debt. Debt holders win in an inflationary period if their interest rates are lower than inflation. It means that the value of your debt is lower this year than it was last year.

I currently have a five figure debt worth $32,000. I haven’t decided what I was going to use it on, yet, but I like the idea of having an advance on my salary for just 4.33% interest rate. It is sitting pretty in my bank account currently and I will tap it if I need to tap it in the future.

However, let it be known, that I only support debt if these two conditions are met: (i) The interest rates are lower than 5.5% and (ii) you know how to use debt. That means you can easily afford the P&I payments, you have a plan for paying it all back without fail, and you will not miss any payments.

If these conditions aren’t met, leverage is risky and the impact of inflation will destroy any amounts of expected benefits from debt.

4) Increase Income

When in doubt, increase income. This is usually the end all be all solution to every money problem. If you just increase your income, you’re doing just fine. “Which debt should I pay off first?” It doesn’t matter if you just increase your income. “What items should I cut off from my budget?” It doesn’t matter if you increase income.

The ways that you can increase income is to get a second part time job or work on a side hustle. My favorite side hustle is this blog. How much do I make from it? Well let me tell you! I make nothing. However, this blog has been worth far more than any part time job I could do on the weekends, making $15/hour.

I just have faith that it will pay off one day. Either ways, the way to fight and combat the impact of inflation is to increase income. That way, the additional income will be more than enough to cover any amount of an increase in expenses for the year. Rinse and repeat and you’re well on your way to the wealthy status.

You have more marketable skills than you give yourself credit for. All it takes is willingness and some brainpower to go out and do it.

The Impact of Inflation is Overblown

Does this mean that the impact of inflation is zero? No, of course not. However, it’s not as huge as everyone seems to think it is. There’s a reason historical salaries have generally kept up with inflation. When I input other personal finance bloggers’ starting salaries from 15 years ago to my starting salaries today, it’s generally kept up.

As long as you understand the intricate details surrounding inflation, then you are on a smarter path to decide whether an event is good or bad. You don’t want to go and demand a 6% increase in salary from your boss because your boss may not be seeing it the way you’re seeing it.

Then if you seem too demanding, your boss just may replace you with someone else at a lower rate. You don’t want to take a drastic action against something that wasn’t too bad in the first place. Protect your money accordingly to the facts surrounding the economic effects of the world.

The impact of inflation is something that so many people misunderstand out in the world. They think they need to increase their gross salary in tandem with inflation. What’s worse is that so many people perpetuate this idea, so more people think that this is true. Groupthink is dangerous.

Well, no more! You now finally understand the real and full impact of inflation and it’s not as bad as everyone is making it out to be. There are actions you need to take to prepare and adjust to the effects. But it’s not so drastic to the point where you need to put in that much more effort than you are putting in today.

This will make a whole world of difference when you’re reading the inflation articles.