How Inflation and Deflation Impacts Our Financial Life

The Consumer Price Index (CPI) is utilized to measure the inflation level for consumer goods and service. The Core CPI, which excludes food and energy prices for all urban consumers, is closely watched. In January 2012, the Fed affirmed that the long-term target for inflation was set as 2%. Usually, the Consumer Price Index will provide insight about what the Fed will discuss at the next Federal Open Market Committee (FOMC) meeting. 

On the other hand, Production Price Index (PPI) is used to gauge the price level from the stand point of producers and wholesalers. The year 1982 was the benchmark year in which a basket of goods was measured to compare with the current month. PPI is able to predicate the future CPI accurately. Both CPI and PPI reports are released at 8:30 AM EST.

Keep in mind, inflation is one of the risks we are facing in the long run, especially for those people who are relying on a fixed-income as their main financial source. If your income can’t keep up with the inflation rate, your inflation adjusted income or “real wealth” will be ground down by inflation.

Usually the moderate inflation level is good to economic and our financial life. Companies are willing to hire more people, therefore, employees have more disposable income. The asset value is increasing, people are feeling good about the wealth, and willing to spend money which might push the production, and increase GDP. However, the superinflation eventually will decrease purchasing power, people feels the squeeze, are afraid to spend money which will curb the production. The Federal Reserve Bank watches inflation very keenly in order to adjust the financial and fiscal policy.

On the other hand, if a country is in deflation status, it might cause staging financial activities. For example, Japan had been in deflation for decades. Deflation means the inflation rate falls below 0%. The price level of goods and services are dropping, producers can make profit. Therefore the economy is in shrinking mood. In August 2013, it was declared that Japan’s 20-year battle against deflation could be put to an end since the rising prices were seen in the third-largest economy. As we know, Japan started a gigantic economic stimulus program in year 2012. We are going wait to see if this working effectively.

The Fed Reserve Chairman Ben Bernanke announced that the Quantitative Easing (QE) would be intact on 9/18/2013 in order to improve the Economy condition without losing control on inflation.