Financial Planning Tool – Benefit from Inflation
One of the most important numbers in the financial world is called the CPI – the Consumer Price Index – and understanding it is an important financial planning tool. It’s vitally important in government, too, because lots of different kinds of government spending are hitched to the CPI. If it goes up faster, the government spends money faster. If it goes up slower, the government spends money a little less fast.
The financial planning tool called the CPI is a number that reflects how much the cost of products that you and I buy has changed over time. It’s tracking the price changes of things like bread, milk, gasoline – you know, every day stuff. The higher the number is, the faster the prices of things you and I buy are rising.
People get worried when they see that number rising – because if everything we are buying is getting more expensive, it doesn’t take a financial planning tool to see that people start spending less to save their money. Governments worry when that number starts rising too – mostly because they are first to get blamed if the economy goes bad.
If you look at a chart of CPI over the nation’s history, CPI has spiked at some very high numbers, and at other times it has dropped so far that prices for goods actually declined. Charts on this kind of data can be a valuable financial planning tool – they give you a sense of what the market is like. I’ve got a graph here in front of me that shows the history of the CPI’s values. But this particular chart has an interesting feature to it. Toward the right part of the graph, where the official CPI trend line is going down, there’s another part of the graph – a grey region, with a trend line going up. This shadowy area of the graph is trying to show where its author, John Williams, believes the CPI should, in fact, be.
Does John Williams have access to some kind of financial planning tool that the rest of us don’t? What’s going on here? Well, it turns out that the government has changed the set of products that are part of the CPI calculation several times over its history. Recent changes have included the cost of steel and asphalt in the CPI. Steel and asphalt? How many of you picked up some extra steel and asphalt last time you were out running errands? Are any of you building a bridge? I didn’t think so. Now what happens when you add these things to the CPI basket? It pulls down the CPI.
Now, I’m no conspiracy theorist – I’m a financial planning tool jockey, and I can’t tell you if the current CPI number is right, or if the number before steel was added is right. July 2009 inflation was reported at negative 1.43 percent. But if the government had used the old way of calculating CPI, that inflation number would have been 6 percent – more than 7 points higher than the official government number. Even if we speculate that the truth is somewhere in the middle of those two numbers, that puts inflation at 2% – much higher than negative 1.43.
I’m worried about what my financial planning tools are telling me about inflation risk. I think it’s climbing now, and with current government spending and fiscal policies, I see an inflation tsunami coming our way. Is your portfolio in a position to weather crippling inflation? If your portfolio is only going to give you 5% until the end of your life, what will you do if inflation stays at 6%? Or better yet, have you set up your portfolio to actually gain from high inflation? Talk about it with your financial advisor, or visit my blog at JohnPollock.tv.