#WTFinance is inflation on about?
24 May 23
Reading time: 6 minutes
Couldn’t help but notice the other day that my favourite pizza slice had gotten slightly smaller. Tasted just as good, didn’t seem like the price had gone up, but wouldn’t you know it – it had somehow definitely shrunk.
Inflation strikes again!
Any card-wielding consumer these days can’t help but feel those costs rising all around us. One reason for this that’s easy to forget, however, is that costs have also inflated for businesses, too.
This can have an impact on us in ways beyond price. (Although I did still enjoy that slice.)
What is inflation, anyway?
Simply put, inflation is when prices keep rising. We pay more, we get less. (Or at least one of those.) Our buying power fades.
This can happen if there’s an increase in demand for goods or services (think housing), a decrease in supply (think produce after the cyclone), an increase in the money supply (think Covid-19 leave payments), or a decrease in interest rates (which we had also thanks to Covid).
Inflation affects us more than we realise
Just because prices inflate doesn’t mean that everyone experiences it the same way. Not all of us are into pizza, after all.
If you’re spending everything you earn (or a bit more if you’re living on your credit card or Buy Now, Pay Later), you are going to feel inflation that much more. The more you spend of what you have, the more you have to cope with rising prices.
So those on lower incomes will likely feel the pain more.
On the other hand, the more surplus you have in your budget means you can take advantage of higher interest rates with your savings. For the longest time, there wasn’t much interest around to compound, but that’s been changing. So savers get a lift at least.
But because one of inflation’s effects can be a decrease in economic growth across the board, it will affect us collectively too.
How do we know we have inflation?
We typically check on inflation by looking at the percentage change in the Consumers Price Index, which Stats NZ puts out every three months to record any changes in the price of goods and services. So the rate of inflation is a percentage increase or decrease in a certain ‘basket of goods’.
As of March, it’s been at 6.7% over the past year. The rate measures the big picture, but it’s just an overall average. Your experience of inflation will vary, depending on what you spend on, and how much. Your personal inflation rate could be much higher.
How inflation works
There are three main types of inflation, and we seem to have at least two at the moment.
The one we may not have is ‘structural inflation’, which is when an economy changes in structure because of, for example changes in technology. Maybe AI will bring that on, but not yet perhaps.
Far more familiar will be ‘cost-push inflation’, which is when the cost of production (the pizza ingredients) increase, which means producers need to increase prices (or shrink pizzas). They ‘push’ inflated prices on to us.
Also familiar will be ‘demand-pull inflation’, which happens when we increase our spending and there is more demand for goods and services than there is supply. We (consumers) ‘pull’ on prices (we’re willing to pay more) and they inflate.
Stimulus money during the pandemic, for example, meant many more people bought in to the sharemarket, pushing investments higher in price.
Where are we headed in terms of inflation?
Did you know that all of us can have an impact on inflation? A lot of where we’re headed depends on what we believe about the future.
If we don’t believe prices will be stable or ever come down in the future, this starts making us think in the short term and make planning for the long term that much more difficult.
We start to demand higher wages, or prices for the goods and services we sell. And this can push prices even higher. They spiral upward.
The only way to slow down inflation is for us all to spend less. That’s no easy thing when costs are rising and there’s no sign of that easing.
We all want to get the best deal. So if we expect something we want to cost 7% more next year, we’re probably going to want to go out and buy it sooner than later. When we all do this, supplies get squeezed and sellers raise prices, which increases inflation even further.
How the Reserve Bank handles inflation
This is where the Reserve Bank steps in – their job is to adjust interest rates and keep prices under control. When they dial rates up or down, they signal that people need to dial down their spending.
Just the other week they shocked markets by increasing interest rates higher than expected to 5.25%. It was a clear signal.
Prices rise when we have more money sloshing around chasing fewer goods and services. So the Reserve Bank tightens the money supply by making it more expensive. That’s what interest essentially is – the price of money over time.
The Reserve Bank aims to keep inflation at a rate between 1% and 3%, but of course we’ve been way higher than that for some time now. So they’ve kept ratcheting up those rates to get it back under control.
What inflation means for New Zealand
Who knows how much higher they’ll need to go, but of course in the meantime this is affecting anyone with a wallet.
It also affects the country as a whole, including trade, exchange rates and how competitive we can be internationally. Of course, it could be worse: Argentina’s inflation rate soared past 100% in February, which means that many things they buy doubled in price since last year!
Strap on your seat belts. We’re here to help you through – here’s where to find tools and support as this cost of living predicament continues.