Inflation is a rise in consumer prices, increasing the cost of living. Some inflation is caused because a country has printed too much money or experienced tremendous financial disaster, causing its currency to plummet. Other sources of inflation can be higher input or transportation costs such as gas, which makes it more expensive to ship good to the store. When the pressures get too great, retailers often pass these costs on to consumers. The consumers, in turn, have a harder time affording stuff such as toilet paper, toothpaste, jeans, paper, cars, lamps, furniture … you get the idea. At this point, the consumers demand pay raises at their companies, possibly pressuring profits further, which can lead to additional price increases, and the cycle begins. This is when economists say that inflation has become “embedded” in the economy.
In the article, Profiting from Inflation, I explained how certain types of businesses have some degree of natural protection from inflation, allowing you to maintain your purchasing power if you invest in them. Although not always possible, it’s the firms that sell things such as brand name cornflakes or baby powder (think Kellogg’s or Johnson & Johnson).
The inflation rate is typically described in something known as the Consumer Price Index, which is a measure of a basket of goods such as coffee, apparel, etc. The United States has typically had much lower inflation rates than the rest of the world, in the range of 3% per annum for the past few decades, although gas prices in 2008 have threatened to drive that figure up in the short-term.
