The inflation rate (Consumer Price Index) has been inching up. The inflation in March was close to 7 per cent. Out of 100, the weightage for food and beverages is 45.86, clothing and footwear is 6.53, housing is 10.07, fuel and light is 6.84, paan/tobacco, etc, is 2.38 and the remaining is clubbed under miscellaneous, which comes to 28.32.
Inflation means there is sustained increase in the prices of goods and services within a period. Reaction to inflation may be different based on one’s perception about it. Some may see inflation as a sign of prospering economy. Some others may feel that inflation means a struggling economy.
When inflation is within tolerable level, the steady rise of prices for goods and services over a period has good as well as bad effects. Inflation may erode purchasing power. It may encourage consumers to spend and consume instead of save and invest.
But when the inflation is beyond a point, it is considered as a risk. That is why any central bank attempts to keep inflation at tolerable levels. In India, the Reserve bank of India has been mandated to keep the inflation within a range of 2 to 6 per cent.
Any individual may spend his earnings on consumption or may save and invest a part of it. During high inflation time, it is worthwhile to understand the effect of one’s outflow as it will have long-term effect on financial well-being. Here an attempt is made to suggest ways and means to manage high inflation times.
Dearness allowance to the rescue
Consumers are of different categories. Those who are compensated by their employers for inflation by way of dearness allowance fully or partially may not feel the pinch. They may continue to maintain their lifestyle. In most of organised employment, even though there may not be an automatic increase of any dearness allowance, the annual increase in wages may take care of the decrease of purchasing power to some extent. In such cases also the wage earner may continue to maintain his or her lifestyle.
Those who are self-employed or independent professionals or part of a business community, generally mark up the price of goods/services to beat inflation and hence they are also not much affected by inflation.
But persons who are not in organised employment do not have any compensation package to take care of inflation. Either they may have to reduce their consumption or look for alternative commodities and services. Or, if they continue with the same pattern of consumption, their saving rate and asset base may come down. So this category has to be careful about its consumption pattern.
Savings and investments
Inflation is considered the thief of purchasing power as it reduces one’s ability to buy goods and services. It reduces the further purchasing power; in other words, it reduces the present value of the future receipt.
With 4 per cent inflation what one is going to receive Rs 100 after one year is worth Rs 96.15 now. In the same way, with inflation of 6 per cent, 8 per cent, 10 per cent and 12 per cent it will be worth Rs 94.34, Rs 92.59, Rs 90.91 and Rs 89.29, respectively.
One should invest to beat inflation. When the savings bank interest rate or bank fixed deposit rate is less than the inflation rate, the depositors get negative real returns.
Instruments to beat inflation
It is better not to block the funds under fixed income securities like fixed deposits for a long period. Rather, one can invest for a period of less than a year and renew it periodically, as the interest rate is likely to go up. Inflation-indexed bonds and variable rate bonds could be a good choice for debt investors.
When inflation is hight, it may be a good idea to invest in commodity stocks. It is better to avoid or reduce exposure in sectors like construction and auto, which use commodities as inputs as they will see a rise in input costs. One can select companies which have got the pricing power to pass on the increase in cost to consumers.
It is also better to invest in commodities like gold, silver, etc, and also properties.
The RBI has got a mandate to keep the CPI inflation at a level of 4 per cent, with a variation of plus or minus 2 per cent. And hence the RBI will eventually take steps to reduce the inflation rate.
But these are uncertain times. We had pandemic for more than two years, which has affected investment, production and employment. We have ongoing war between Russia and Ukraine, which has disrupted supply chain all over the world. Hence we may have to wait and watch how soon RBI will be able to bring the inflation within their mandatory limits. In the meantime, it is for the individual to act prudently to reduce the impact of surging inflation.
The writer is a retired banker.