- November 3, 2016
- Posted by: toperunsewe
- Category: Business plans, Finance & accounting, Innovation
Few days ago, the National Bureau of Statistics reported that in June, the Consumer Price Index (CPI) which measures inflation recorded a relatively strong increase for the fifth consecutive month in 2016. Inflation accelerated to the highest rate in almost 11 years in June, at 16.5%.
The impact of inflation on personal savings and economic activities cannot be overemphasized. It negatively affects economic activities and the welfare of the ordinary man.
Inflation reflects a situation where the demand for goods and services exceeds supply in the same economy. It is usually triggered when the private sector, individual and the government spend more than their revenues/income. Increase in price could also be triggered by increase in the cost of production as well as increase in the price of imported goods and raw materials. It becomes worse when the country heavily depends on imported goods.
But what effect does inflation have on the economy and investment in particular? Inflation causes many distortions in the economy.
The effect is more on people with fixed income (linear Income). When prices rise, these consumers cannot buy as much as they used to. This discourages savings due to the fact that cash at hand is worth more presently than in the future. As a result, there’s a reduction in economic growth because the economy needs a certain level of savings to finance investments that boosts economic growth.
Inflation makes it very difficult for businesses to plan for the future. It becomes very difficult to decide how much to produce because businesses cannot predict the demand for their product at the higher prices they will have to charge in order to cover their costs.
The impact inflation has on a portfolio depends on the type of securities held there. One may not have to worry about inflation when they’ve invested only in stocks.. For companies, their revenues and earnings should increase at the same pace as inflation.
Sadly, inflation can discourage investors by reducing their confidence in investments that would take a long time to mature. The main problem with stocks and inflation is that a company’s returns can be overstated.
The effect of inflation on investment occurs directly and indirectly. Inflation increases transactions and information costs, which directly inhibits economic development.
The hardest hit from inflation falls on the fixed-income investors and earners. It is important you master asset allocation and how to diversify your portfolio into different ways so as to earn higher and hedge against current negative economic reality. In the long-run, sustained inflation is damaging to growth and the financial system in general.
Increase in inflation leads to lower real returns not just on money, but on all other assets too. These low returns interfere with the functioning of financial markets and the allocation of investment.