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Jun 20, 2022

Why inflation is so high — and how to prepare

Highlights:

-Inflation happens when prices rise for essential goods and services in an economy. It can be caused by multiple factors, including surges in demand and supply chain issues. 

-Inflation reached decade highs in the last 12 months as families in the United States experienced an inflation rate of more than 8%.

-Higher inflation can affect your personal finances – and your ability to invest and build wealth.

What is inflation?

Let’s start with the basics. Inflation happens when the costs of goods and services increase. As a result, the value of your money goes down. When prices rise, your dollars can no longer buy the same amount of goods and services they used to.

In the United States, the Federal Reserve, or "the Fed," helps track our country’s financial system and monetary policy. The Fed acts as our central bank to help control high inflation. And they don’t work alone — they enlist the Bureau of Labor Statistics (BLS) to help measure inflation. 

The BLS uses the Consumer Price Index (CPI) to measure the overall cost of baskets of goods bought by a typical consumer. This index helps us understand inflation over time and the causes of inflation. So how much inflation is too much inflation?

Bulls and bears with green and red arrows represents the stock market's ups and downs during inflation

Did you know that the inflation rate in the last 12 months was higher than 8%? Let’s talk about what that means. The average cost of items increased by 8.6% from May 2021 to May 2022. While food and energy prices are on the rise, it doesn’t stop there. The cost of living has increased throughout the United States. So, what’s the deal with higher costs? Let’s find out.

What causes high inflation?

Did you know? During the 2020 pandemic, inflation managed to stay well below 2%. So, why has inflation gone up so much? After all, it’s only been one year. According to the Federal Reserve, there are several reasons.

Labor is expensive. 

In the United States, labor costs continue to rise due to large waves of resignations across all industries. The movement, also known as the Great Resignation, started during the pandemic when employers struggled to attract and retain employees. In 2021 alone, 47.8 million workers quit their jobs. That’s an average of nearly 4 million resignations each month. As a result, the growing movement has led many employers to offer higher wages and lucrative benefits to prospective workers — making labor much more expensive.

Supply chains are suffering.

Supply chains are the systems to help businesses take products from raw materials to finished goods. It’s no secret that there have been issues with supply chains worldwide. And with so much going on in today’s world, supply chains are taking a hit. This means big oil supply disruptions and higher transportation costs for producers. Think about it this way — if it’s more expensive to produce and get a product to market, its price will reflect that.

Have you visited your local gas station recently? You probably already know energy prices are high. And just like many Americans across the country, we’re feeling the gas price hikes too. To put things into perspective, gas prices are reaching $7 per gallon in some states. Yikes!

Consumer demand is high.

From groceries to games, demand isn’t stopping. According to the Fed, despite the higher costs, demand is thriving and is a leading factor of inflation. Their solution? Slow the economy by raising interest rates.

When interest rates go up, the cost of borrowing money also goes up. And when borrowing gets more expensive, the economy tends to slow down. For example, family members borrowing money at a higher interest rate will have more interest to pay back. On the flip side, banks will pay more interest to those who have money saved in the bank. So if more people are saving instead of borrowing and spending, consumer demand may begin to decline.

How can my family prep for inflation?

Having an emergency fund can help your family during periods of high inflation. Emergency funds are savings accounts for unplanned events, such as a job layoff or illness. Hello, peace of mind. 

A general rule of thumb: make sure you have 3-6 months of expenses saved in your emergency fund. 

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Another way to adjust for inflation is to reevaluate your budget — and cut back where possible. There are many ways to save money while still budgeting for family fun. For example, instead of a dinner night out, plan a family movie night at home or a DIY art project to save money. Family fun, all on a budget!

Investing during high inflation

Inflation and investing — do they mix? Absolutely. Building wealth is achievable during times of high inflation. While inflation is currently 8.6%, the historical average investment return on the S&P 500 index is around 10.5%! A 10.5% average return means that even with an 8% inflation rate, your dollars would still grow nearly 2% that year. Want to learn more about investing? Feel free to add this blog post to the queue.

Start your money journey with Greenlight

Now that you know more about inflation, the learning doesn’t have to stop there. Get smart about all things money (including inflation) with financial literacy for kids and parents. Available anytime, anywhere. So if you’re ready to take the leap, sign up for Greenlight today and get the whole family on board. Debit card, financial literacy and investing — we’ve got it all covered.

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