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Why Inflation Hurts More Today?

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I came across an AP article on why Inflation hurts more today than 30 years ago and it’s quite interesting. Since we are talking 30 years ago, I thought I would share this Dire Straits video I’ve been obsessing over. This version is AWESOME so go ahead put on your head phone and click play. 8)

Circa 1981, I didn’t know anything about investment or inflation, but I can’t believe these numbers! I can’t imagine such a high rate of inflation and what it would to do to my savings.

inflation rate 1980s

The AP article mentioned that workers’ raises kept up with inflation in the 80’s and they were able to cope with high inflation pretty well. Paul Volcker, the chairman of the Federal Reserve, raised the interest rates to combat inflation and that also helped. Saving vehicles such as CDs, money market, and saving accounts all had good rates of return and enabled investors to keep pace with the inflation. The 10 years treasury bond yielded more than 13%, that sounds really good to me. That’s much better than the current stock market return and a whole lot safer.

Back to the present and although inflation has been lower than 2% recently, we all are feeling much more pinched. Over the last three years, the lucky ones have seen salary freezes and extremely low interest rates, my saving account is earning a paltry 0.75%. Of course, there are a lot of unlucky people who lost their jobs and that’s an even tougher situation.

Now that the gas price is rising again, it will affect all products and we will be feeling the pinch even more. Inflation will only get worse once the economy recovers in full – prices are rising as economy improved.

So what can we as investors do to hedge ourselves against inflation? Personally I haven’t had to deal with high inflation, but I have some ideas.

  • Don’t tie up money in CDs or other long term savings vehicle like bonds since the rate is so low now. It’s probably better off to invest in something else until the interest rates improve. An alternative that will keep up with inflation is the Treasury Inflation Protected Securities (Mom Vesting).
  • Invest in the stock market. The stock market historically outpaced inflation so I think it’s still a good long term investment. I hate to say it, but energy conglomerates like BP will be making a lot of money in the years to come so I’ll have to take a closer look at them.
  • Keep working. If inflation really hits double digits, then retiree wannabes should keep working longer since their wages should rise a bit as well. It’s going to be tough to depend solely on investment income if inflation gets really high.
  • Invest in rental properties. I think the housing market is nearing bottom and now is a great time to get a mortgage with very low interest. If inflation gets worse, the rent roll will increase and the mortgage loan will be easier to pay off. I’m inclined to borrow as much as I can now while the interest rate is low. What do you think about this?
  • For those of you who were working in the early 80s, how does the current economy compare to the 80s economy? Do you have any tips?

What else would be good investments if we are transitioning into a higher inflationary period? What are you doing to hedge yourself against higher inflation?


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{ 26 comments… add one }

  • LifeAndMyFinances March 25, 2011, 3:41 am

    I can’t wait to invest in rental properties! Since my wife and I are quite conservative with our investments, we’ve decided to purchase a place for ourselves first, pay it off in 3 years or so, and then rent it out while we buy another.

    We’ll just keep doing this until we have 10 places or so (yes, this could take a while, but there’s little risk involved) and have a good passive rental income. Seems so simple, but I’m sure it’s not going to be. πŸ˜‰

    • retirebyforty March 25, 2011, 8:47 am

      Wow, that is a great plan. If you can pay off in 3 years, I would be very impressed. You should look into duplex and bigger, they make more sense than a stand along house with your philosophy.

  • Pinyo March 25, 2011, 5:58 am

    Interesting article. I think I mostly agree with your ideas.
    1. I don’t have any money in CD, but I do have some TIPS (I am still debating if I should increase or decrease my bond holdings, but right now it’s around 10% of my portfolio)

    2. Most of my money is invested, but it’s spread our fairly well between US and internationally.

    3. Working full-time and then some.

    4. I don’t have a rental property, but I borrowed just about as much as I could and have 2 houses.

    • retirebyforty March 25, 2011, 9:20 am

      I don’t have a rental property, but I borrowed just about as much as I could and have 2 houses.

      Hopefully you don’t have a huge amount of consumer debt. πŸ™‚
      I’m planning to borrow as much as I can and invest in more rental as long as the rate stay low. We need some advice from people who have gone through high inflation.

  • Little House March 25, 2011, 7:00 am

    I’d guess that you’re right about not investing in CD’s right now, or at least not long-term ones. I suppose that the one benefit to inflation will be a higher rate of return, right? As for salaries keeping up, at some point companies are going to have to cave in and give their employees a raise, or at least that’s what I keep telling myself!

    • retirebyforty March 25, 2011, 9:22 am

      Once the labor market improves, I think we’ll see much better compensation. With high unemployment, the employer feels no pressure to increase salary right now. I don’t have any money in CD either.

  • Invest It Wisely March 25, 2011, 7:16 am

    Inflation isn’t as bad for the younger ones like me, since we can work and see rising wages as a result. That said, I still think inflation is one of the worst forms of theft a government can do to its people.

    • retirebyforty March 25, 2011, 9:24 am

      That’s true. Inflation hurts retiree the most since they only have investment/social security income. Even with minimal inflation, retiree who hasn’t seen any social security raise over the past 2 years are hurting. It’s going to be even tougher if inflation rise.

  • Jessica07 March 25, 2011, 10:38 am

    Great article. I’m glad you found one our posts so helpful to your analysis of the situation. πŸ™‚

  • krantcents March 25, 2011, 11:21 am

    Those were the days!!!! HaHa. 1980-81, inflation was double digits and pretty scary. In 1981, I owned two apartment buildings that were increasing in value. I probably contributed to inflation, by increasing rents on vacant apartments. There was rent control in Los Angeles, however there was no cap on vacant apartments. I do not have a problem with the current inflation, but I do have a problem how they measure it. Gas prices are far more volatile now and excluded from inflation. High fuel costs are contributing to higher food costs too.
    One way is to invest in stocks/funds that are sensitive to inflation. This is true of investing oil companies to counter the high fuel costs.

    • retirebyforty March 25, 2011, 5:18 pm

      Thanks for your insight. I’ll need to research oil companies even though I don’t like them too much.

  • Will @ HackingTheBank.com March 25, 2011, 12:29 pm

    Mortgage rates look so awesome right now. I’d really like to save for a downpayment and make something happen, even if it’s a small place I don’t see myself living in in five years. I could still rent it out. This would mean putting a lot of my current plan on hold though, like paying off my student loans. Ugh, there’s way too much I want to do.

    • retirebyforty March 25, 2011, 5:20 pm

      That’s what I recommend for new investors. Buy a small place then when you’re ready to move on, rent it out. Simple. πŸ™‚
      See Derek’s response on top. He has big plans.

  • Doable Finance March 26, 2011, 5:48 pm

    You compared the 80s with today’s inflation. Back then inflation was high, that’s true. But so was the return on investment. I remember there were banks in Chicago and elsewhere that were paying 25% on 5-year CD. I didn’t invest because I didn’t wanna tie up my cash. It’s hard to believe but most folks didn’t. Those were the good and the bad old days. But still better than today for me at least. I had a good job, good income, single, not the kind of worries that I would think twice about.

  • Moneycone March 26, 2011, 5:56 pm

    Have a side hustle, learn everything you can about investing and become a disciplined investor.

    Investing in rental properties is a great idea and as you say, this is good time to take the plunge if the property is located in a rentable spot.

    TIPS will keep up with Fed’s definition of inflation, won’t beat it though.

  • youngandthrifty March 27, 2011, 9:31 am

    Like the video, good song!

    Yeah, side hustlin’ is where it’s at, and not relying on your primary source of income. Having different income streams is a great tool against combating inflation.

    • retirebyforty March 28, 2011, 9:01 am

      I’m working on more side hustles. I guess that’s the unintended consequence of reading all the finance blogs. πŸ™‚

  • Barb Friedberg March 27, 2011, 1:20 pm

    Just reading through my rss feeder and “had to read” about inflation. What a nice surprise to see a link! Thank you. (I get about 1 pingback a month :). This is quite interesting and makes sense. But, my anxiety is growing as I believe that inflation rates are bound to continue upward…. and I’m not sure if pay or yields will compensate.

    • retirebyforty March 28, 2011, 9:03 am

      I’m glad to send some link love. πŸ™‚
      I am worry about inflation as well, that’s why I’m asking people who have been around in the 80s for some inflation advices. I have never had to deal with high inflation before. I would like to think that the federal reserve can help a bit too.

  • Squirrelers March 28, 2011, 10:02 am

    With inflation at lows now, and many folks expecting it to go up, it’s good to limit exposure to any variable rate loans, or take on loans later that incorporate a higher interest rate. For example, if one needs a mortgage, why not get one now before you’ll pay an arm and a leg in interest later.

    This also brings up the topic of gold. It’s been a hedge of inflation over time, but it’s a connundrum now due to prices already being so high in a low inflation time.

    • retirebyforty March 28, 2011, 10:19 am

      We are only doing fixed rate loans. If it goes down a lot more, we can always refinance right?
      I don’t like gold right now, it’s just too expensive. We should have invested in gold 3-4 years ago!

  • Jason March 31, 2011, 2:09 pm

    The fruit pies in the picture look really good.

  • First Gen AMerican April 10, 2011, 3:51 am

    I personally would love to see interest rates go up like that again as I already have a home and my spare cash is earning didly squat.

    • retirebyforty April 10, 2011, 11:13 pm

      I have never seen crazy inflation and I don’t know if I’m ready for that. High interest rate would be great though. πŸ™‚

  • sierra September 28, 2011, 8:13 am

    Yeah, food and energy are not included in the “official” inflation rate; how convenient for the government and the propaganda financial world!
    Other “faux” inflation is happening also; smaller loaves of sliced bread and increased prices and other “downsizing” of packaged goods…..all chip away at current spenders for necessary items.
    As for CD’s, one commenter said that back in the 1980’s payout interest rates were high also along with rate of inflation; today the killer for retirees at least since 2003 (circa) CD interest rates have been crushed along with other savings rates. But, if you have fixed income how can you risk that money in this idiotic market??? End up out in the street????

    • retirebyforty September 28, 2011, 9:28 pm

      Yeah, it’s tough. That’s why Blue Chip dividend stocks are so popular right now. At least you’ll get regular dividend even with the volatile stock market. The other option is P2P lending, but that sounds pretty risky to me. I’ll start small and see how it goes.

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