Inflation has long been a concern for many, even when experts insist it’s not a pressing issue. While some believe we might be overly pessimistic, we can’t ignore the history of inflation since the Federal Reserve was established in 1913. Although recent trends suggest the central bank may have finally managed to control inflation, we remain cautious. After all, our financial well-being hinges on its stability, and we are hesitant to see our purchasing power diminish or to face outright capital losses.
It’s worth noting that we do not obsess over inflation, or at least we would like to think so. Our investments in gold, Treasury Inflation-Protected Securities (TIPS), and other tools to guard against inflation are rather modest—almost negligible if inflation were to surge unexpectedly. By typical gold investor standards, our strategy might even seem like an indication that we believe inflation has been completely vanquished.
However, as your editor recognizes, the long-term political and economic forces that drive inflation remain strong, as evidenced by historical analysis. Even at today’s allegedly moderate inflation rates, the compounded effects can be significant over time. For instance, something that cost $100 in 2000 now averages around $120, according to the Bureau of Labor Statistics’ inflation calculator. This means that a dollar is worth approximately 20% less today than it was just seven years ago—an unsettling reality that has emerged during a period celebrated for its success in controlling inflation.
The calculations above are based on the government’s consumer price index (CPI) definition of inflation, which some argue does not fully capture the actual inflationary pressures consumers face. Unfortunately, most investors find their options for protecting against inflation’s damaging effects rather limited. Gold remains a traditional hedge, yet few are inclined to hold more than a nominal amount. The realm of collectibles and commodities also offers potential, but issues such as illiquidity, price volatility, and lack of pricing transparency can complicate their use as effective inflation hedges.
For many investors, TIPS present a more viable solution; however, these bonds are directly linked to the CPI, necessitating a level of trust in this inflation measure. For some, this level of faith may seem excessive, as we discussed in the June issue of Wealth Manager magazine. Nonetheless, many investors find themselves reliant on CPI. For a deeper look into these implications, read further….
