Most of us have a general idea of what inflation means: stuff gets more expensive.
Of course, inflation is a bit more complicated than that.
What Inflation Means, and How Its Measured
Inflationis pretty simple.
We measure inflation using a metric called theConsumer Price Index, or CPI.
When the CPI goes up, that means inflation is happening.
In fact, its dropped quite a bit.
You might be thinking,Thats bull.
How Inflation Affects Your Wallet
Most of us tend to think of inflation as a bad thing.
But rising prices hit the lower and middle classes especially hard.
In short, when inflation is up, we feel the strain.
We search forways to be more frugal.
Food prices havent gone up too much!
And in the short-term, thisisa good thing.
So it makes sense that inflation generally bums us out.
It means stuff gets more expensive, and who wants to pay more for stuff?
Your savings arent earning any interest, so youre not keeping up with inflation.
The lower inflation is, the more you earn from your interest.
By this same logic, inflation is also agood reason to start investingand saving for retirement.
Youre actually figuring that million dollars without thinking about inflation.
But retirement savings arent based on lately, theyre a return over the long haul.
Theyre calledTreasury Inflation-Protected Securities.
Theyre low-risk investments that pay twice a year and grow according to the CPI.
You wont earn a fortune from them, but youll at least keep the value of your dollar.
Most economists agree: inflation is a necessary evil.
And, in fact, its not really evil; it keeps our economic system balanced.
It also produces jobs.
In fact, governments quite like inflation in moderation.
So, in moderation, inflation can help keep people employed.
By that same logic, if inflation goes up, so will spending, and so will employment.
If the company you work for is earning more cash, youre more likely to get a raise.
Or worse, they run out of money and start defaulting on loans and mortgages.
Then, the banks suffer, and the economy is in emergency mode.
This creates a liquidity trap.
When banks suffer losses, they stop lending, creating a credit crunch.
In short, inflation isnt always a bad thing.
While there are some short-term benefits to cheap prices, in the long run, we need it.
Otherwise, it can lead to more systematic, serious long-term problems.
Like most things in life, it all comes down to balance.
Illustration by: Sam Woolley.
