What Is Inflation and Why You Need To Make Your Money Grow
This article is posted under General Information, Personal Finance.
A man goes home to his wife from the office bearing some good news. His request for a salary increase was approved today by his boss. They decided that a celebration was in order.
It’s been a year since they’ve eaten at the posh restaurant in downtown Manila, so they decided to have dinner there. Looking at the menu, they noticed how much the prices of the food has increased since their last visit.
Nevertheless, they still ordered their favorite meals and enjoyed the night, talking about the new things they can buy and the extra luxuries they could now afford.
What the couple doesn’t know is that, although the husband’s income has been augmented, their purchasing power did not necessarily increase the same way.
Let’s say for example that the man’s monthly salary last year was P25,000 and his new salary this year is P27,500. That’s a 10% increase in his nominal income. However, if the prices of commodities has increased by 8.6% from last year due to inflation (which happened in NCR last 2005), then his real income actually increased only by 1.4%.
This means that eventhough the husband will be getting an extra P2,500 per month, if they take into account the devaluation of the Philippine Peso, he will be in fact, only receiving a mere P350 extra per month. Why? Because the things that they could afford to buy with P25,000 last year will now have a tag price of P27,150 (25,000 multiplied by 1.086).
These simplified computations clearly show how inflation affects our income and our daily lives.
To define, it can be said that inflation is an increase in the prices of goods and services in a given economy over a period of time. This means that if an item costs P100 last year and if the inflation rate from that period to the present time is 12%, then the same item will now have a price of P112.
There are many causes why the prices of commodities increase, there are a lot of theories and resources which you can read to know exactly these reasons. What is important for you to understand now is that because of inflation, our money is continuously shrinking or losing value.
Inflation hurts people particularly those in fixed incomes like the elderly and those whose income isn’t indexed to inflation. They lose a part of their purchasing powers because their cashflow remains constant while their cost of living increases.
Employed individuals, despite receiving constant salary increments, are hurt because there is a time lag in compensation adjustments. By the time they receive higher nominal income, it has already been months since the prices of commodities went up.
Do you have a savings account? What is the rate of interest per annum that your bank is giving you now? Chances are it is just 1%, maybe lower. It is usually less than the inflation rate from last year.
What does this mean? It means that your money is slowly shrinking in value. Your hard earned income which you are letting sleep in the bank is losing its power to buy you the things you need in the future.
What can you do to cope with inflation?
1. Get salary increases as often as you can or continually switch towards higher paying jobs.
2. Lessen you expenses and find cheaper alternatives to your costs of living.
3. Learn how to invest and make your money grow.
Among these three, I consider the last one as the best solution to survive inflation; simply because it is what rich people do. They invest their money in businesses and assets which continuously gives them income rates much higher than inflation rates.
Personally, I am fortunate to own a business which continuously grows by at least 5% in profits every quarter. The inflation rate for 2007 was only 2.6% in Manila. This means that I was able to cope with inflation last year.
Will this year be any different? I don’t know. This is why I still continue to find ways to earn money so I can invest more. I continually educate myself about money and investments so that I can find more ways to grow my money and have more passive income.
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McMahon, Tim. “Who Does Inflation Hurt Most?” April 17, 2007.
Philippines National Statistics Office. “Index of Price / Inflation Statistics“. February 5, 2008.
Wikipedia, The Free Encyclopedia. “Inflation“. February 5, 2008.
Photo courtesy of philmoney.blogspot.com
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