Economists believe that inflation that occurs gradually over time is normal and may even drive economic growth. But, when high inflation occurs rapidly, the impact of inflation on personal finances can be significant.
Here are some of the ways inflation can affect your budget and strategies for managing your money when inflation is high.
How inflation can affect your budget
Higher prices
As inflation rises, the cost of goods and services increases. At the grocery store, the gas pump, retailers and restaurants, everything costs more, decreasing your purchasing power.
Increased cost of borrowing
Often, during inflationary times, interest rates rise. These rising rates make it more expensive to carry debt — as a result, your regular debt payments could be higher and/or it could take longer to pay off the debt you have.
Reduced savings
When the rate of inflation is higher than the interest rate you’re earning in your savings account, your money could be losing value over time. At the same time, you may need to save more money to reach your financial goals — that car you were saving up for may cost considerably more today versus a year ago.
Ways to manage your money when inflation is high
While inflation is unavoidable, there are ways you can try to get ahead of it to maintain both your standard of living and your financial goals. Here are some strategies to consider:
1. Diversify your investments
Because different investments react differently to economic changes, so a diversified portfolio may help protect your savings. For example, a diversified portfolio of equities and bonds may help mitigate inflation risk. Meeting with a financial professional can help ensure your portfolio contains a mix of investments to help safeguard your financial future.
2. Boost your income
Your employer may be open to a cost of living wage increase that accounts for the sharp increase in everyday goods and services. If you haven’t received one proactively, it’s worth raising the topic with your manager — they’re likely feeling the same pinch and will at least understand the reason for the conversation.
Another way to bring in more cash is to start a side hustle. Consider your talents, time and opportunities — odd jobs such as tutoring, babysitting and freelancing can add a bit of extra cushion to your bank account. Remember, every little bit helps!
3. Set aside money when you can
While times may already be tight, try to build an emergency reserve that you can draw from should you need some extra cash for a large or necessary purchase in the future. You could build your reserve by cutting back on non-essentials today or allocating things like a tax return or year-end bonus to a rainy day fund that can help you navigate harder times.
4. Prioritize debt repayment
As the cost of borrowing has risen with increased interest rates, try to pay down debt as quickly as possible. By paying less interest every month, you’ll be freeing up money that you can save or use for other purposes.
Inflation is a natural part of the economic cycle, and there’s no avoiding it. But recognizing how it affects your wallet — and understanding what you can do about it — can help reduce its impact on your day-to-day life.
This article is intended as general information only and is not to be relied upon as constituting legal, financial or other professional advice. A professional advisor should be consulted regarding your specific situation. Information presented is believed to be factual and up-to-date but we do not guarantee its accuracy and it should not be regarded as a complete analysis of the subjects discussed. All expressions of opinion reflect the judgment of the authors as of the date of publication and are subject to change. No endorsement of any third parties or their advice, opinions, information, products or services is expressly given or implied by Royal Bank of Canada or any of its affiliates.
