If you aim to build wealth independently, the right mindset can lead to significant achievements, even if you’re starting with little. In this article, I want to highlight something beyond our control – inflation. Surveying our community last October revealed a profound impact as a result of inflation surging about 22.8% since March 2020.
Inflation, often misunderstood, forced us to scrutinise the financial system which seems designed to extract wealth through the money we use over time. Need proof of this claim – check out the official mandate of the Reserve Bank of NZ – to target a rate of inflation between 1-3%. At a rate of 2%, $100k buys $50k worth of goods and services 30 years later. Why is that the default setting?
The survey results also exposed how inflation affected our lives, altering spending habits for 72.37% of respondents, with 84% feeling its impact moderately, and 31% severely.
Higher inflation triggered a closer look at financial strategies too. For instance, although those with a $1m mortgage may have had an over 50% increase in their mortgage payments. So long as income increases (75% of respondents had a pay rise over the last 2 years), you’re winning! Why? Because while your income is inflation-adjusted, your mortgage balance isn’t. Assuming a constant interest rate on your debt therefore, it becomes relatively easier in the long term to repay your debt. It’s works for government – it can work for you too!
About 46% believe inflation will take more than 2 years to fall below 3%, echoing uncertainty around interest rate drops. Noting that this survey was completed in October, taken today I’m certain the results would be more optimistic. The US Fed is signaling interest rate drops this year, and if the game of ‘Simon Says’, where Simon is actually Jerome Powell continues, I’d expect the RBNZ to be signing from the same hymn sheet. We’ll know on Feb 28th, the date of the next announcement.
The philosophy behind monetary policy is simple, yet like anything with economics, it’s imperfect: if the RBNZ wants to stimulate the economy, it lowers the OCR, which makes borrowing cheaper and saving less attractive. This incentives spending and often investment too, which can boost economic activity and create jobs. On the other hand, if the economy overheats, with inflation as a result, it raises the OCR, to disincentivise borrowing and incentivise saving; they suck money out of circulation. This is said to slow down economic activity, perhaps even induce a recession, and yet stop inflation.
It’s simply when looking at it in theory, but in practice, it’s hard for central planners to influence what’s supposed to be a free market without making it worse. There’s a constant trade-offs between inflation and growth.
Inflation affects some people differently than others. I am particularly concerned about the 31% of you who said inflation has impacted your lifestyle severely. These are the people likely in growth mode, using debt to get ahead. They’re not expecting or dependent on handouts; they’re happy to take risk and work hard – but they get hammered the most. These are the people who are most likely to suffer in silence, to feel isolated, and to struggle with their mental health. These are the people who may be tempted to live beyond their means, to drain their savings, to rack up credit card debt, and to cash in their long-term investments.
As painful as it’s been for many people, including myself, being an avid consumer of mortgage debt personally, there is going to be some light at the end of the tunnel, and we’ll come out better off in the long term as investors. The great thing about high inflation, is that it’s highlighted for a larger group of people, a problem that exists in our financial system. A mandate for price stability that includes an objective to maintain a positive rate of inflation is an explicit gameplan to steal our wealth. The first step in improving anything is first admitting you have a problem. Governments and Central banks will be quick to point at supply chain disruptions and corporate greed as the inflation culprits, but the more everyday investors understand the root cause of inflation, the more likely we’ll be willing to vote in a way that forces reform in the future. Those who control the money really do control the world, so instead of thinking right or left in your politics, let’s start to think up and down.
Understanding the system your dollars are at work in, is just part of become a better-informed investor. Taking risk with your investments to accrue more of a currency which loses value from bureaucratic incompetence, doesn’t make for a solid gameplan.
