by Kurt Purkiss
Inflation is a topic that has been making headlines almost daily and has sparked concern for everyday Australians and the Reserve Bank of Australia alike.
But what exactly is inflation, and should we be worried about it? I’ve been asked this question at every kids’ soccer game and BBQ I’ve gone to over the past few months, so let’s dive into this economic trend and explore what it is and how it impacts our daily lives.
What Is Inflation?
In simple terms, inflation refers to the increase in prices for goods and services over a period of time. When inflation occurs, the purchasing power of money diminishes, which means that each dollar can buy fewer goods or services this year than it could last year.
To understand this concept, let’s delve a bit deeper. Imagine you have $100 today, and you can buy a certain amount of groceries with it. However, if inflation sets in, let’s say at a rate of 5%, the prices of goods and services will increase over time. So, a year from now, those same groceries would cost $105. Subsequently, your $100 will not be able to buy the same amount of groceries it could previously.
Inflation doesn’t just affect our grocery bills, its impact goes beyond individual purchases and affects various aspects of our economy. When prices rise, businesses face increased production costs, such as higher raw material expenses. To offset these additional costs, businesses increase the prices of their products or services. This, in turn, affects us as consumers, who have to pay more for the goods and services we want or need.
Now that we know what and how inflation works let’s talk about whether inflation is a problem.
Why Is Inflation A Problem?
A moderate level of inflation is considered healthy for the economy. The RBA aims for a target inflation rate of between 2-3%, as at this level, it helps stimulate economic activity. This 2-3% level indicates that the economy is growing, businesses are doing well, and people have more money to spend and generally feel comfortable doing so.
While moderate inflation is considered a good thing, high or rapidly rising inflation can be problematic. When inflation gets out of control, it erodes the value of money and reduces people’s purchasing power. Essential goods and services, like groceries and household bills, become more expensive, making it harder for individuals and families to meet their basic needs. Furthermore, high inflation can lead to uncertainty and instability in the economy, discouraging investment and economic growth.
How Do We Control Inflation?
Well, when inflation is rising more than we would like, one of the most effective tools is for the RBA to increase interest rates. This, in turn, increases the costs of borrowing and is intended to slow down spending, therefore cooling down the economy. Or at least that’s the intention.
One of the issues that have hindered the effectiveness of this economic lever in recent times has been the large volume of borrowings having historically low fixed rate arrangements. As the rates have been locked in, the official rate rises have not impacted everyday households as intended, and as such spending has not slowed as anticipated, and inflation has continued to increase.
So, When Will Inflation Ease?
Well, we don’t know exactly…
There are many different data sets that we can refer to, but most point towards a large number of loans rolling off of their low-interest rates towards the end of this calendar year. At this point in time, these loans which have been locked in at very low levels will be renegotiated at the considerably higher rates we are seeing at present. This should see the rate of spending slow considerably and, in turn, inflation should also come back to a more moderate and sustainable level.
To sum it up, inflation refers to the prices going up for things we buy over time. A moderate increase in prices is actually good for the economy, but when inflation shoots up it can cause some problems.
Finding the right balance is tricky, and policymakers are always keeping a close eye on economic indicators in an attempt to control the outcome.
How We Can Help
Understanding inflation empowers us to make informed financial decisions. If you or a loved one are concerned about how inflation might impact your investments, retirement plans or are worried about a loan that might be rolling off a low fixed rate in the near term, you should get in touch. At Lambourne Partners, we have a range of experts who can help you navigate the ebbs and flows of these uncontrollable influences and provide you with guidance to best navigate the ever-changing landscape.
To get in touch, contact us below or call 02 4969 6600.