How to Calculate Inflation Rate

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High prices have become common in daily life, from morning coffee to groceries, household supplies, and dining out. The reason? Inflation.

Last year, the US saw a staggering 9.1% increase in inflation rates, the highest in four decades, resulting in rising prices of goods and services. Whether you’re a consumer or involved in real estate, understanding how inflation rates impact you is crucial.

Inflation affects the economy, from grocery bills to mortgage rates and investment returns. During high inflation, effective financial management is crucial. In this article, we explain the concept of ‘inflation rate,’ its causes, calculation methods, and influence on financial decisions.

The inflation rate indicates price increases over time, reducing currency value. It represents the growth rate of inflation over a specific period. Understanding inflation is important because it affects purchasing power. For example, a gallon of milk that cost $3.51 in 2021 now requires $4.43 in 2023. This means you can buy less with the same money, indicating a decrease in purchasing power.

The inflation rate reflects currency decline, usually represented as a percentage. It impacts cost of living and economic growth, with higher rates correlating to slower progress. The Federal Reserve aims for an annual inflation rate of 2% for stability.

Rising prices indicate a healthy economy. Negative inflation or deflation is harmful, as falling prices can lead to increased saving, reduced spending, and diminished growth. However, rapid inflation erodes purchasing power, impacting behavior and borrowing. In the long run, persistently high rates can also influence investment strategies, potentially affecting retirement savings and leading to stock investments over bonds. Inflation rates are influenced by various factors, primarily market conditions.

Demand-pull inflation occurs when demand exceeds supply, causing prices to rise. Cost-push inflation arises from increased production costs. Built-in inflation occurs when workers demand higher wages due to high inflation, driving prices up. Examining Gross Domestic Product (GDP) provides an overview of an economy’s growth or contraction over a specific period.

In the United States, the main indicators of inflation are the Personal Consumption Expenditures Price Index (PCE) and the Consumer Price Index (CPI). These indexes measure inflation and spending behavior differently. The PCE is compiled by the Bureau of Economic Analysis (BEA) using business data, while the CPI gathers data directly from consumers. Economists, including the Federal Reserve, prefer the PCE’s methodology, but consider other inflationary data for monetary policy decisions.

On the other hand, the CPI is a measure of inflation compiled monthly by the U.S. Bureau of Labor Statistics (BLS). It considers average prices of common items in a selected basket of goods, including groceries, housing, and medical expenses. The CPI uses a base year for comparison and has two survey bases, with the CPI-U covering about 93% of the U.S. population in urban areas.

To calculate the inflation rate, the formula is: Inflation Rate = ((B-A)/A) x 100, where A is the initial cost and B is the final cost of goods or services. This formula calculates price change by subtracting the starting price from the ending price, dividing it by the starting price, and converting it to a percentage. The U.S. Bureau of Labor Statistics website provides a CPI Inflation Calculator.

Inflation also affects property markets and real estate investment. During periods of high inflation, borrowing costs and interest rates increase. Banks become more cautious in lending, leading to fewer loans and stricter credit checks. Existing mortgages taken out before inflationary periods can be advantageous as the owed amount remains the same despite the depreciated value of money. Rental rates tend to rise during inflationary periods due to increased demand, while vacation rentals may not experience the same increase as travel and tourism usually decline during inflation.

Property values appreciate during high inflation as fewer new properties are built and existing properties become more valuable with lower inventory levels. Real Estate Investment Trusts (REITs) also tend to increase in value during inflationary periods. In fact, REIT dividends have outpaced inflation as measured by the CPI in the past twenty years.

Inflation: Opportunity & Caution.

Inflationary trends have implications for your finances. As a property investor, inflation can lead to increased returns from rental income, property appreciation, and REIT dividends. However, it’s important to consider that it may also result in higher interest rates and property prices. 

At Foothold, we offer you to fractionally invest in vacation rentals properties . If you want to invest in property as a hedge against inflation, we can help you with a simple process and low initial investment. Explore our range of properties and start building your property portfolio today. 

Please note that the views expressed in this piece are for informational purposes only and do not constitute personalized advice or recommendations for any specific security or investment product. These views are subject to change without prior notice. Please refer to Foothold’s legal disclaimers for more information.

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