Apart from Covid and a war (!) the big news right now is inflation.  For many this might be the headline that really has got your attention because you can feel it in your pocket or bank balance.

I am told that inflation is at a 30 year high.  A lifetime for some of us (and almost half a lifetime for others.) Food, rent, petrol, houses, you name it, it is getting more expensive…

I’m joining the conversation with a quick Inflation 101 for beginners. What it is, why we have it, how it will impact you and what to do about it.

What is inflation?

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Here is a simple definition… The decline of purchasing power of a given currency overtime.

That is, you can buy less for the same amount of money.  

That is, the cost of “stuff” (goods and services you buy) goes up in price.

Western Governments for many years have tried to keep inflation low and stable.  (i.e. a 1-3% increase each year). If prices drop, economies can go backwards, if prices rise to quickly a nasty spiral effect can occur.

The NZ Government has tasked the Reserve Bank to keep inflation in this 1-3% annual increase band.  Up until recently that was their overriding goal as an organisation (recently they have had some other goals added to their job description.) The tools to achieve this goal were moving the Official Cash Rate (which impacted the cost of borrowing money and so impacted economic activity) and issuing bonds (aka as printing money and so getting more cash circulation in the economy  (these policies are known as monetary policy).

The Government also spends or stops spending to impact how much money is circulating in the economy (aka fiscal policy,) which is the other tool in the toolbox for Governments.

 Why is inflation so high right now?

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I think it is fair to say a perfect storm is here.  These are the things that have led to our current inflation figures:

Covid

‍ When this first hit, we were hearing concerns around 15% unemployment and massive drops in house prices.  And so..

 The Reserve Bank dropped OCR (to almost zero) to try to stimulate growth

The Reserve Bank issued bonds (i.e. Printed money to try to keep the economy moving)

The Reserve Bank removed the limits on low deposit lending (LVR rules)

The Government offered wages subsidies and business loans to try to keep things moving

House price bubble

House prices didn’t increase in fact as we all know, they increased (by around 40% in 3 years.) This led to rents being increased so landlords could secure a required return. It also made house owners feel richer and so we all kept spending.

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Supply chain shortages  

It is taking longer and costing more to get goods in to the country (again, thanks Covid).

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Labour market shortages

Covid didn’t lead to mass unemployment as was predicted but with the closed borders, it actually led to a shortage of workers. Unemployment has fallen to low levels of 3% and we are all hearing of many industries with labour shortages.

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And now, we have a war.  

Thank you, Mr Putin!  I join in with the rest of the civilised world in being appalled.  The biggest issue of course is the impact on the citizens of Ukraine who have had their lives destroyed.  For the rest of us we watch on in disbelief.  

At an inflation level, we are impacted due to Oil and Wheat.  Two things Russia (and Ukraine, in the case of Wheat) produce a lot of.  Fun fact, Russia and Ukraine produce 30% of the worlds wheat).

With the supply of these commodities being decimated, prices, are going up.  Think back to your 5th form (or year 11!) economics class.

So that is the perfect storm.   Inflation is up in NZ, as it is around the world.

How rising inflation impacts you

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Here is The Good the Bad and the Ugly.

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Inflation is currently running at 6-7%.

·      House prices are up

·      Rents are up

·      Fuel (petrol/electricity) is up

·      Food is up

As population, wages are up, but aren’t keeping up with the costs.  

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Those in the lower economic brackets are most impacted by these increases, as the above items make up a bigger part of their weekly budget.

The only “bright” side is that those for those with debt, inflation will reduce the “real amount” of that debt.  Just think about our parents and Grandparents.  They had “huge” debts of $25, 000 to buy their first homes.  Even if they didn't pay any of that back for 50 years, having a $25k mortgage now wouldn’t seem like a big deal.

In 20 years, having a $1, 000, 000 Home Loan won’t seem like a big deal.

I think that is pretty much the only bright side I have.

For us with a Home Loan (and those wanting a Home Loan) all eyes are on the reserve Bank and what they do with the Official Cash Rate in April and May.

If they think this inflation cycle is a “blip” the Reserve Bank may be cautious with increasing the OCR to fast and too hard (which has been their strategy to date.  However, if they take the belief that this inflation rate is becoming ingrained in to the economy, I have heard figures of a 0.5% increase in April and a 0.5% increase in May being thrown around.  If this happens, do watch the Home Loan rates continue to rise by similar amounts.

What to do about inflation

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I do really feel for those on low or moderate fixed incomes who have just been making ends meet. Things are tough and sometimes very little can be done.  My hat is off to those of us who juggle, and frugally budget just to get by week to week.

This period of inflation will pass.  These price increases won’t keep going.  We don’t know if it is another 6 months or 2 to 3 years, but inflation is cyclical and the above events will pass.  NZ has a strong balance sheet and will get through (regardless which political parties lead us on) to periods of price stability.

For those who have some options:

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Budget

Know where you are at. If you don’t know what is coming in and what is going out of your bank account, you can’t hope to make a plan and navigate through tough times.

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Keep the long term in mind 

Be willing to sacrifice a little now to achieve what you want to in the long term.

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Prioritise the key things.

For most of us that is paying the rent/mortgage and the essentials (food, power) and keeping healthy. What really is essential?  

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Make sure you have a buffer in place

Anticipate some increase in costs in the next few years. If you don’t, go back to the above point (prioritise key things)

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Change some behaviour for a period to reduce costs

Look to reduce non-essential spending (entertainment, takeaway, holidays) for a while to bump up savings and keep that buffer in place for if times get tougher later on

There may not be a lot of good news in this blog.  

Your Velocity Adviser can’t change much of this, but we can offer some support and work through your Home Loan costs, insurance costs (to make sure you are getting the best cover for the best price) and that you have your KiwiSaver settings right.  

We also offer a comprehensive Financial Planning option for those who want to step back, look at the “big picture” and get set for the future.

Take care out there!

Brendon

About Brendon:

Hi, I'm Brendon, one of the owners and advisers at Velocity Financial. I have been giving advice on mortgages and insurances at Velocity for around 15 years, and it is great to be able to work with people to achieve their financial goals. Prior to giving money advice I worked as a youth worker and managed teams for a not for profit organisation. I live with my wife and one of my sons (the other one only stays when he needs food) in Berhampore, and if I'm not talking revolving credit accounts I can be found running the trails of Wellington.

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Disclaimer: Brendon Ojala (FSP119244) is a Financial Adviser with Velocity Financial (FSP95466). No investment decision should be taken based on the information in this blog alone. Please see Brendon’s disclosure statement on our website.

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