Prices are rising — and even the experts don’t know when they’ll slow down.
For five months straight, costs on the typical basket of consumer products have risen at the fastest pace in 13 years, according to the Department of Commerce. Another measure of inflation — closely followed by officials on the nation’s central bank — rose in July by the quickest rate since the 1990s.
For the average American, the mere mention of “inflation” can stir up a panic. It conjures worries of a stagnating economy, rising prices and an income that just can’t keep up with the cost of living.
Yet, rising prices aren’t extraordinary and experts say they should increase by a steady amount every year — a sign of a healthy, growing economy. Meanwhile, inflation was already expected to be higher this year, thanks to an economic bounce back from the pandemic along with unprecedented monetary and fiscal stimulus.
But the wallet-harming kind of inflation occurs when prices rise year-after-year across the board. And while price gains are showing signs of slowing down, the ultimate question is when inflation will return to more typical levels. Federal Reserve policymakers expect elevated inflation for at least three more years, according to their most recent projections.
“Given the unprecedented nature of powering down much of the economy due to the pandemic and then suddenly rebooting, it is not surprising to see dislocations in demand and supply that are leading to higher prices,” says Greg McBride, CFA, Bankrate chief financial analyst. “These increases are already showing some signs of moderating and that will continue over the next six to 12 months. Higher shelter [housing] costs and price increases resulting from employers boosting pay will likely keep inflation readings persistently above 2 percent for the next 12 to 18 months, perhaps longer.”
Fed Chair Jerome Powell in September warned of upside risks that inflation could continue to be a bigger threat to the economy than the Fed originally thought, adding that those supply chain issues have worsened in recent months and that prices today have risen on a wider assortment of products than earlier in the year.
Here’s what you need to know about the clear winners and losers of an inflationary environment.
Winners during higher inflation
1. Fixed-rate mortgage holders
Anyone with large, fixed-rate debts like mortgages benefit from higher inflation, says Mark Thoma, a retired professor of economics at the University of Oregon. Those interest rates are locked in for the life of the loan, meaning they won’t ebb and flow with inflation. Homeownership may also be a natural hedge against inflation, given that homes are considered an appreciating asset over time.
“They’re going to be paying back with devalued dollars,” Thoma says, referring to fixed-rate mortgage holders.
Property holders also won’t be exposed to rising rent costs during higher-inflationary periods.
Stockholders get some protection from inflation because the same factors that raise the price of goods also raise the values of companies. Meanwhile, companies can raise prices to shelter their profitability from inflation, but some firms have thinner profit margins, such as retail, and food and drinking places.
“Theoretically, the value of equities varies directly and proportionally with inflation,” Thoma says. “When you double all prices and wages, you double profits and you double the value of stocks, basically.
3. Commodities investors
Commodity prices track the inflation rate closely, McBride says. Buying storable commodities such as gold can be a good hedge against inflation.
Some investors have compared cryptocurrencies — such as Bitcoin — to a digital form of gold, especially considering that the asset has soared over the past few years.
Experts, however, are divided on the issue. A March analysis from Bank of America analyst Francisco Blanch found that Bitcoin’s track record as an inflation hedge has yet to be seen, with its rapid price appreciation more so reflecting supply and demand.
Inflation’s many losers
In an economy where inflation is rising quickly, interest rates rarely keep up, causing savers’ hard-earned dollars to gradually lose buying power, McBride says. He suggests one way CD savers can fight this trend.
“Keep your maturities short, so you have the ability to reinvest at higher rates as inflation works its way out,” McBride says. “You don’t want to be locked in long term at a low rate of return only to see inflation go racing past you.”
A high inflation rate often means wage increases, but that won’t benefit those who are retired, McBride says. Their pots of retirement money are already fixed. Price pressures could further harm retirees’ wallets if they have too much exposure to cash or fixed-income investments, such as bonds.
“Higher inflation erodes the value of the savings that you have,” he says. “When inflation goes up, it tends to accelerate a lot faster than interest rates can keep up, so it erodes the buying power not only of your existing savings, but anybody who’s relying on interest income or investment income, like retirees.”
3. Investors in longer-term bonds
In a high-inflation environment, “it’s on the bond side where there’s a lot more trouble,” Thoma says. “If you’re living off coupon bond payments, for instance, you’re going to lose when there’s inflation.”
McBride says bond investors can hedge against inflation by favoring shorter-term bonds and inflation-indexed bonds.
4. Variable-rate mortgage holders
Homeowners with mortgage rates that aren’t fixed typically see their borrowing costs climb periodically along with the broader inflation in the economy, leading to larger payments and decreased affordability.
5. Credit card borrowers
Most credit cards have a variable interest rate tied to a major index, such as the prime rate. That means cardholders experience quickly climbing rates and higher payments in an inflationary environment.
6. First-time homebuyers
McBride says people looking to save for their first home in the midst of a high inflation rate are confronted with quickly rising home prices, higher interest rates for mortgages and a relentless slide in the value of any money they’ve put away for a down payment.
Bottom line: Higher inflation can hurt the economy
Consumers and investors don’t have many places to hide from inflation, meaning it can pose dire consequences for the economy. The dollars that consumers have in their wallets can’t buy as much as it used to, meaning many people might decide to pull back on spending — especially if they don’t get a pay raise to counter higher prices. That could stifle demand, threatening business profitability and hiring.
The Fed might also be forced to intervene by raising interest rates, not unlike what happened during the 1970s and 1980s. Higher borrowing costs make it more expensive to finance the new businesses and homes that are vital to a growing economy.
“If you look at periods of strong growth in U.S. history, the one constant has been a very modest rate of inflation over that time,” McBride says.