Inflation is the increase in our cost of living by 5-7% every year. Explore how it affects you and how you can beat it.
Let’s set the scene first. You, in the year 1998, going to a cafe to have a cup of coffee. It costs you a mere ₹8.
Cut to now, you’re returning to the same cafe in 2021, ordering the same cup of coffee but it costs you ₹196 (considering 7% inflation each year).
This huge increase in price on just a cup of coffee is an example of how inflation is working against you.
Hence, Inflation or the increase in ‘cost of living’ in a layman’s language affects everything we buy and consume.
In India, the average annual inflation rate has been roughly 7% in the past which has now come down to 5.7% in 2021.
But what exactly is Inflation?
Inflation is a term used to describe the increase in the price of goods and services over time and the decrease in the value of the money.
It lowers your purchasing power. Think about what ₹10 meant to you when you were a teen and what it means to children now.
The prices are increasing every year, but is your income increasing in line with the inflation? Not in everyone’s case.
This is where mid and low-income people struggle to maintain their standard of living.
While a 2 to 3% increase in your regular spending due to inflation may not seem like much in the short run, it can have a significant impact in the long run, especially when planning for retirement.
It can make the battle between income and expenditure even more difficult. As a result, when saving for the future, you should look into schemes that are known to outperform inflation.
Why does Inflation happen?
Inflation is a major economic threat. The biggest factor that contributes to the rise of inflation is the Imbalance in Supply and Demand.
Inflation is unavoidable when supply is limited and demand is high. Take, for example, soaring housing prices in major cities like Bangalore and Mumbai.
Organic veggies and fruits are also more expensive due to a scarcity of supply.
Prices also rise as manufacturing expenses, such as raw materials and wages, rise. Inflation can result from an increase in demand for products and services, as people are ready to pay more for them.
Why would someone sell a commodity at a lower price if there are those willing to pay a higher price?
Another factor that increases the prices is Excessive Currency Flow. The value of currency decreases when more printed money enters the economy.
Is Inflation a risk for you and your investments?
YES! If you have a sizable chunk of your portfolio invested in fixed income instruments, inflation is a big risk for you.
In fact, it will hit you harder if you have a lot of cash or cash equivalents. As the saying goes, what compound interest brings, inflation takes away.
To put it another way, inflation is the inverse of compound interest, i.e. decompound interest.
Because each year's inflation is compounded on top of the previous year's inflation, the effect is similar to compound interest.
Consider the following scenario: you invest Rs.1 lakh in a deposit that pays you 8% per year. At the same time, prices are increasing at an annual pace of 8% on average.
Your compounding returns will just about keep up with inflation in this circumstance.
Although the total amount will increase, the amount you can accomplish with it will not. So, after ten years, your ₹1 lakh will have grown to ₹2.16 lakhs.
However, the items you could have purchased for ₹1 lakh will now cost you ₹2.16 lakhs on average. In effect, your ₹1 lakh now has less purchasing power than it did ten years ago.
The increase in the quantity of money you own is merely a mirage that is fully nullified by an increase in pricing.
The inability to adjust for inflation is a widespread issue. People think in nominal terms, and it's difficult to internalize the future impact of inflation.
Actually, the solution is for us to become a low-inflation economy, but since that isn't on the table, savers and investors like you should mentally adjust for inflation at all times because there’s no getting around it. Inflation is unavoidable.
So how can you beat Inflation?
It is impossible to predict how inflation will influence all of your investments, but you can explore options to beat it:
1. Revisit and Examine your Monthly Budget:
You'll have to recalculate your household budget. Examine your expenses for both necessities and extras.
Examine your options and check where you can cut down. Limit eating outside or eliminate some subscription services. whatever suits you.
Maintaining your household budget as a percentage of your earnings is another approach to stay on track.
For example, if you make ₹50,000 and your household expenses are ₹30,000, it becomes 60% of your salary.
By reducing discretionary spending, you should be able to keep your home expenses at 60% of your income.
Also, when creating your financial goals, keep inflation in mind.
2. Invest in Mutual Funds/Shares:
It’s one of the best ways to tackle inflation. Firms with good fundamentals can combat inflation and begin to generate profits, thus these are the companies to invest in.
All investors are taught that investing in stocks is risky. However, it only takes a little thought to realize that inflation is a greater risk.
And, in order to keep up with inflation and earn real profits on top of that, you have to invest in something that rises with inflation.
You can also put money into a SIP (Systematic Investment Plan) for a longer period of time, which will assist you in combating market volatility and inflation.
There are numerous mutual funds that offer strong returns that are sufficient to combat inflation.
3. Invest in Gold and Silver:
We all know commodities such as gold and silver have historically been used as inflation hedges. When the value of a currency falls, investors seek refuge in a safe haven, i.e. Gold.
It delivers higher-than-inflation returns. Gold should account for 10-20% of an investor's portfolio.
It should be considered as a long-term investment, If you don't already have gold as an investment, you can gradually increase your holdings by investing in gold ETFs, gold mutual fund savings schemes, or the most convenient and safe option, Digital Gold.
Jar helps you stay inflation-proof by investing your money into Digital Gold automatically, safeguarding you against inflation constantly.
It makes the process much easier by investing your spare change from your online transactions. Hence, investing won’t feel like a burden to you.
It will become a part of your life. Stay ahead of inflation and enjoy inflation-beating returns by taking baby steps - starting to put your money in the Gold through the Jar app.