When inflation occurs, it's driven by a number of factors, one of which is the expectation of inflation. Many economists are calling the present inflationary factors temporary. They claim they are due to pandemic-related labor and supply disruptions, and everything will be back to normal soon. The problem with that analysis is twofold.
The higher prices of real estate are unlikely to slide back to pre-pandemic levels. There is a lot of competition for workers; competition that is driving wages higher. Those who get higher wages are also not likely to give them back. At least a portion of the inflationary pressure from changed cost structures is here to stay.
Then there is the issue of the expectation of inflation. The expectation of inflation fuels inflation. If a business owner expects their cost of goods to go up and labor costs to increase, they are likely to raise prices. This would be a natural and smart move, so as to not end up in financial trouble.
Similarly, a landlord may ask for higher rents as they expect the cost of real estate to move upward and they seek a certain level of return across the lease period. People do not need to experience cost increases to respond to inflationary pressure; they just need to believe the increases are coming.
The pressure from the expectation of inflation is very real.
I recently wrote about steps you can take to protect your investment assets against a period of inflation. When inflation occurs, it could bring some havoc to the markets. There’s no crystal ball, but equities are the better bet, and fixed income can be a dangerous place to be during periods of high inflation.
The next logical step is to consider whether or not you should be doing anything else. Here are some non-market moves to consider if you believe we may be heading into a period of significant inflation.
Home Ownership
If you are thinking about purchasing a home, you might want to consider accelerating that timeline.
Two things you may expect in a period of relatively higher inflation: Real estate prices will move up; they may not move up immediately and they may have some increased volatility in a traditionally low volatility investment.
Interest rates will also likely move up. Even if they don’t move up appreciably, qualification for a mortgage may be more difficult during a period of economic uncertainty. Lenders are a conservative bunch.
Owning your own home is one of the single best things to have done prior to a period of high inflation. Naturally you don’t want to overextend yourself, and you need to be cognizant of downsides like how you would manage if you were to lose your job and have difficulty finding another. Be careful; don’t take unnecessary risks.
Major Purchases
If you expect the price of appliances or costly items to be significantly higher a couple years from now, it could make sense to replace any you think you are going to replace anyway. We’re not talking about running out and getting new appliances to replace ones that are three years old.
But if, for example, your washer and dryer are long in the tooth and you’re trying to eke the last turns out of them, you might consider making a move before there is a significant increase in prices.
The general rule is that it makes the most sense to replace items of significant cost and that have a relatively long useful life.
Start a Second Job or Side Hustle
When inflation occurs, it may have some economic trouble along with it. When people become tight on money, they spend less. Companies in turn reduce their workforce to compensate for the lower demand, which makes people tighter on money, and so the cycle goes.
Having a second job or second source of income can be a huge asset during an inflation induced economic slump. You’ll still need money. Money becomes worth less, not worthless.
Cash
Here is a tricky one. On the one hand, you don’t want to hold too much cash that is becoming worth less each week. On the other hand, cash is king, and you will need cash to purchase goods and services — and, when inflation occurs, that will take more cash than it took before.
There’s a balance here, to not have too much cash that could and maybe should be invested, in spite of the potential for a lot of volatility. But to still have sufficient cash to meet your needs if you have a gap in income or an uninsured emergency.
The cautious approach is to lean a little on the heavy side, but not to overdo it. Have more than you think you need, but not a few times what you think you need.
Necessities
Two things to consider with regard to necessities: Many advocate stocking up in case there are severe shortages when inflation occurs.
This is a consideration, but not a reason to go full on prepper here.
A reasonable stockpile against temporary shortages is fine. And purchasing items you know you will use provides you insulation against price increases for that quantity of goods. But a five-year supply of beans is probably overkill and more likely money wasted than saved.
Medical supplies require some judgment. Ensuring you have bandages is fine, but you probably don’t need to get the next three years of your prescription medications. Be prepared, but be reasonable.
There is also a common recommendation to garden. This one doesn’t really need the threat of price increases to be a good idea. But it is not for everyone. And if you’re in a place where it’s not a good time of year to start a garden, you may only be able to buy seeds and make plans.
Debt
Debt, like cash, is a little tricky. On the one hand, reducing expenses will make any period of financial challenge easier to get through. Reducing unnecessary expenses is certainly a good idea.
But larger debts are tricky because you have a set payment schedule to make, and instead of paying them off now you could pay them off later with dollars that are worth less.
The simple solution does not involve a lot of analysis. Small debts that you can easily get rid of should go. High interest debt should go.
But things like a mortgage at a reasonable or relatively low rate of interest probably shouldn’t go. Most people can’t just pay off their mortgage anyway, and paying it down won’t help you get through a difficult period; you’d be better off having the cash.
Ditch the high interest rate debt. Ditch the small balances so they are gone from your budget. Then hang onto your cash and pay off your bigger balances later with cheaper dollars.
The Bottom Line
There is no certainty that we are heading into a period of high inflation, or that there will be a significant slowdown if that happens. The steps that make sense to take are the ones that don’t cost you a lot in terms of time or money. The steps that make sense to take are ones that are financially prudent. The attitude to adopt is one of caution, not of fear.
Modest changes can make any period of difficulty easier to bear. But they should not be so severe that they negatively impact your life or finances if the inflationary calamity does not come to fruition. Those with closets full of dried beans will either regret the decision or have the last laugh. Myself? I’ll give them that chance.
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