What you need to know about inflation?

Inflation, a key economic indicator, is often a topic of interest and concern. As of November, inflation remained stable at 3.1%, showing a slight decrease of 0.1% from the previous month. Looking back to June 2022, inflation reached its peak at a concerning 9.1%. This significant drop to the current rate signals a noteworthy improvement.
In order to truly understand inflation, here’s a quick primer on everything you need to know about inflation.

What Is Inflation
Inflation is when the prices of goods and services increase over a period of time, resulting in a currency decreasing in value and purchasing power. Put simply, your dollar doesn’t go as far as it used to.

Central banks, like the U.S. Federal Reserve, closely track inflation. With a target of around 2%, these banks adjust monetary policies to address inflation if prices rise excessively or rapidly.

What Drives Inflation
An increase in the supply of money is the root of inflation. A country's money supply can be increased by the monetary authorities by:
- Printing and giving away more money to citizens
- Legally devaluing (reducing the value of) the legal tender currency
- Loaning new money into existence as reserve account credits through the banking system by purchasing government bonds from banks on the secondary market (the most common method)
In all of these cases, the money ends up losing its purchasing power. High inflation can occur as the result of a variety of factors. However, economists often divide the root causes into two categories: demand-pull inflation and cost-push inflation.
Demand-Pull Inflation
Demand-pull inflation refers to situations where there are not enough products or services being produced to keep up with demand, causing their prices to increase.
For example, the prices of eggs in 2022 and 2023 were significantly higher than in previous years, and the quantity of cartons available on your supermarket shelves might be limited. This is a result of a drastic decline in the supply of eggs following the most severe outbreak of avian influenza in the United States in 2022.
Cost-Push Inflation
Cost-push inflation, on the other hand, occurs when the cost of producing products and services rises, forcing businesses to raise their prices.
For example, the war between Ukraine and Russia has resulted in an urgent shortage of energy. As oil producers find it challenging to immediately increase output, this has led to a surge in oil prices, causing production costs to rise across various industries. As businesses face increased expenses, they may pass these costs on to consumers in the form of higher prices for goods and services.
It's also possible for inflation to result from factors unrelated to the economy. Natural disasters or major world events can disrupt supply chains and reduce the amount of goods available, driving up prices on the stock that remains. It's also possible for a combination of these factors to occur simultaneously or for one to occur as the result of another.
Key Indicators for Measuring Inflation
To assess if inflation is too high, too low or on track, American economists and policymakers typically rely on several indexes that are updated monthly: the consumer price index (CPI), the producer price index (PPI) and the personal consumption expenditures price index (PCEPI).
CPI
The CPI is the most commonly used inflation metric. It’s measured using data gathered monthly by the U.S. Bureau of Labor Statistics, which tracks price changes across a basket of about 80,000 everyday consumer goods and services ranging from groceries to gasoline to health care and utilities.
PPI
The PPI measures inflation from the perspective of the seller. It tracks monthly changes in more than 100,000 prices from about 25,000 establishments that voluntarily report data to the BLS. The PPI is the counterpoint to the CPI, allowing economists to compare price changes for consumers versus sellers.
PCEPI
The PCEPI is used by the Bureau of Economic Analysis to measure the relationship between changing consumer prices and changes in personal income. This is similar to the CPI but not the same. Although the PCEPI also tracks price changes across thousands of goods and services, it also compares those prices to how consumer spending behavior changes.
The PCEPI is often used to help forecast economic trends, and the Fed frequently uses it when creating monetary policy.

US inflation, aided by lower gas prices, decreased last month, presenting a mixed picture in the Federal Reserve's report, which indicated a slowing inflation rate that still surpassed the central bank's 2% target.

What are the effects of inflation?
Inflation affects a wide range of goods and services, from essential needs like housing, food, and healthcare to non-essential items such as cosmetics and jewelry. When inflation becomes widespread, the anticipation of continued inflation becomes a significant concern for both consumers and businesses.

Let’s explore the most prevalent effects of rising inflation rates.
- Lost Purchasing Power
- Higher Interest Rates
- Higher Prices For Everything
- Economic Growth Slows
- Anti-Inflationary Measures Can Cause A Recession
Inflation is a major threat to the economy. But as the Fed tries to adjust the market with monetary policy and interest rate hikes, sometimes it overcorrects.
If the market isn’t ready for the Fed’s actions, that can mean lower economic growth for the country. When this happens for one quarter, it is usually referred to as a contraction. But if this happens for two quarters in a row, it is generally considered the start of a recession.
During a recessionary environment, the Fed often lowers interest rates to encourage economic activity. But as the cycle continues, it can be a painful ride for everyone.
How does inflation affect investment returns?
The impact of inflation on investments varies across different asset classes such as stocks, bonds, gold, etc. Here's an analysis of how inflation affects each asset class and some suggestions on how investors can adjust their portfolios during inflation:
1.Stocks (Equities):
a.Impact: Stocks typically perform well during inflation. Companies can often pass on increased costs by raising product and service prices, maintaining profitability.
b.Adjustment Advice: Investors may consider increasing investments in companies with strong profit growth and stable cash flow, as well as industries that perform well in inflationary environments.
2.Bonds:
a.Impact: Inflation can lead to a decrease in the real yields of bonds, posing a risk to fixed-rate bonds.
b.Adjustment Advice: Investors may shift towards inflation-protected bonds or adjust their portfolios to include floating-rate bonds, as their interest rates tend to be correlated with inflation levels.
3.Gold:
a.Impact: Inflation is generally seen as a positive factor for gold, which is considered a hedge against inflation.
b.Adjustment Advice: Investors may consider including a certain percentage of gold in their portfolios to enhance inflation resistance.
4.Real Estate:
a.Impact: Real estate typically performs well during inflation as property values and rents may rise.
b.Adjustment Advice: Investors may look for real estate investments, especially in areas where rents can be adjusted to accommodate inflation.
5.Commodities:
a.Impact: Commodity prices are often correlated with inflation levels.
b.Adjustment Advice: Investors may consider increasing exposure to commodities strongly linked to inflation, such as energy and metals.

During inflation, diversification is key for investors. By blending different types of assets, investors can better adapt to the inflationary environment and maintain a robust performance in their portfolios.
How to Control Inflation?
There are several ways governments can combat inflation, but the main tool used in the U.S. is the monetary policy of the Federal Reserve Board.
The Federal Open Market Committee (FOMC), which is the policy-making arm of the Federal Reserve, has a dual mandate -- to maximize employment and control inflation. Its main tool is interest rates.
here are some key actions:
1.Interest Rate Hikes:
a.Operation: Central banks raise the benchmark interest rates.
b.Impact: Increasing rates can reduce the money supply by raising the cost of borrowing, thereby lowering consumer and investment spending.
c.Potential Effects: Lowering inflation but potentially dragging on economic growth.
2.Interest Rate Cuts:
a.Operation: Central banks lower the benchmark interest rates.
b.Impact: Lowering rates can stimulate consumption and investment, increasing the money supply.
c.Potential Effects: Promoting economic growth but potentially leading to rising inflation.
In addition to interest rates, the Federal Reserve can choose to buy and sell Treasury securities from its own balance sheet. By selling Treasuries from its balance sheet, the Fed removes money from the economy, which can help to cool inflation.
The Bottom Line
We don’t know how long this period of higher inflation will last. All we can do is try to make the best choices we can with the information we have — and adjust along the way. With that, it simply remains for me to wish you happy trading. Goodness knows you’ve earned it.