What is Inflation?

Inflation can impact both individual consumers and companies. They can both suffer from lowered purchasing power. This happens when the value of money decreases over time and the same good and services you purchased last month, is now more expensive today. It’s important to understand what inflation is and how it works to help you manage your personal finances during inflationary periods.

Inflation is the rising price of goods and services associated with the cost of living. Inflation means that the purchasing power of money decreases, and more units of currency are required to buy the same goods and services that previously cost less. Most governments and statisticians measure inflation by the Consumer Price Index (CPI). The measures the cost of a select number of fixed goods and services over time. Example, what is the price of bread, eggs, milk, and fruit today compared to what it was last year?

Inflation can me put into three types: cost-push inflation, demand pull inflation, and built-in inflation.

How Inflation Works and Its Causes

Demand-pull inflation happens when there is more demand than there is a supply of certain goods and services. When demand is higher than the availability of goods and services, the price of these items can go up.

Cost-push inflation is driven by production costs of a product or service. When there is an increase in the cost to produce something (for example when the cost of plastics and metals increase that is used to produce motor vehicles).

Built-in inflation is created after the effects of demand-pull and cost-push inflation. Workers may start to demand higher wages to keep up with the higher costs of living. However, in order to maintain the profits, they have been making, the companies will increase prices of the products and services they make and offer. This is why it is often said that consumers end up paying more even when they get a wage increase.

What could inflation mean for Canadians?

The purchasing power of Canadians’ income can be affected if the cost-of-living increases as a result of inflation, and they may need to create a game plan to help their money go further.

Impacts from inflation could mean that first-time home buyers may need to look at saving more for a down payment before they can enter the housing market.

It could mean that you need to save more before you retire which might mean you have to keep working longer.

It could mean that the cost of education increases, so students finish university and college with higher debt levels.

It could mean that Canadians are forced to use credit cards to purchase their daily and monthly necessities.

These impacts could also mean that Canadians might look for ways to save on their everyday shopping like groceries.

More: Credit Card Debt and Canadians.

Coping with Inflation

While Canadians may not have direct control over inflation there are some strategies that could help lessen its impact.

Budgeting: Review your budget to find areas where spending could be reduced and saving or investing increased. For example, you need to budget to cover essential needs first and reduce or remove expenses for items that are not essential.

Identify where your money comes from and where it goes.

Diversifying Investments: Over time inflation can have an impact on investments. Diversifying your investment portfolio can be a useful tool to help reduce inflationary risk on your long-term investments.

Seeking Alternatives or Purchasing on sale: When faced with price increases, consumers can try to find better deals or explore alternative brands or products that may be on sale. Instead of buying Nike, purchase Rebok. Instead of buying the fancy bread, buy the no-name.

Reduce or Consolidate Debt: Debt consolidation of your outstanding loans, including any credit card debt, could permit you to negotiate a lower interest rate than what you are currently paying for each of these debt items. This could help decrease the overall amount you are paying.

More: Use Spring Financial to Consolidate your debts.

What's Next for Inflation?

Predicting the future of inflation can be challenging given the various economic factors and global events that influence it. Impacts such as economic growth, consumer spending, government policies, and global economic conditions can all have an influence on inflation.

The central Bank of Canada (BoC) is responsible for monitoring inflation and aims to keep the annual inflation rate within a target range.