It’s fair to say that there is a lot going on in the world right now. In fact, it can feel like we always have the opportunity to worry about something. Just when we thought life was returning to normal, here comes inflation knocking at our door. Inflation is nothing new, and it is not some big scary term that didn’t exist until 2022. Inflation has been around forever and if you happened to fall asleep through economics class, we will get you caught up.
So what is inflation really? Inflation is basically when the price of goods and services go up (inflation runs between 2-2.5% every year in Canada). It’s measured by how much prices inch up over time and tracks how the value of money falls because of those price hikes. It’s measured in Canada by the Consumer Price Index (CPI). The CPI measures the change in prices of goods and services that consumers pay over the course of time….in other words what is the price of a McDonald’s Big Mac today vs 20 years ago ($6.85 in 2020 vs $2.85 in 2000). It all comes down to purchasing power and the value of our currency.
So what causes inflation? Step into our economics class and we will walk you through it. Inflation happens when the price of goods goes up. But what causes the price of things to go up anyway? It all goes back to supply and demand. When people want to buy things but there aren’t enough things for them to buy, the price goes up to meet the demand. There are two different types of inflation, and each one can impact how prices go up. Let’s walk through them:
Demand-Pull Inflation - This happens when the demand for goods goes up but the supply stays the same. If sellers can’t keep up with the supply, then they can raise their prices (think of the great toilet paper shortage of 2020). This makes the prices pull up to keep up with the demand.
Cost-Push Inflation - This takes place when the supply of goods is low but the demand for them stays the same. When this happens, the prices are pushed up (usually by some event cutting off the supply). We saw this happen when the global supply chain took a hit at the beginning of COVID-19 and when the Suez Canal was blocked and when the Colonial Pipeline was hacked. Now, some of that (okay, a lot of that) was caused by people panic buying, but it was still because of an event that caused prices to push up.
Should we worry about inflation? No. Here is the reality of the situation. Inflation has been around for as long as there has been currency. The cost of our goods climbs steadily and will continue to do so. We have seen inflation at higher-than-normal levels (3.6%) due to the fiscal policy rolled out by the central banks, supply chains constraints and low interest rates, but there is no cause for concern.
Our advice is simple…. STAY CALM, continue to INVEST in mutual funds that grow well in excess of the rate of inflation and most importantly BUDGET for future inflation. It is going to cost you more to buy a McDonalds Big Mac in 20 years than it does today.