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The Impact of Inflation on Your Financial Plan

The Impact of Inflation on Your Financial Plan

January 28, 2022

As we close the books on 2021 and turn our attention to the new year, it is hard to ignore that inflation pressures are impacting many parts of our lives.  Let’s take a look at what may be driving the pricing pressures and how you may want to take advantage of the current situation as relates to your financial planning. 

What is inflation?

Inflation is an overall increase in the prices of goods and services in an economy. As prices increase, so does the cost of living.  One of the more commonly monitored statistics, published by The Bureau of Labor Statistics, is the Consumer Price Index (CPI).  December 2021 CPI came in at the highest level we have seen in 40 years, rising 7 % from December 2020.  Energy prices rose 29.3% over last year, and food prices increased 6.3%. Think about the average cost of a loaf of bread now ($2.50) versus what it may have cost 40 years ago (50 cents). 

Since the beginning of the global pandemic, we have seen massive amounts of fiscal stimulus along with an accommodative Federal Reserve.  This, combined with global supply issues and worker shortages has put pricing pressures on many parts of the US and global economies. Consumers have felt the impact of pricing pressures at fuel pumps, in grocery stores, and many other parts of their lives. 

Many experts are predicting that these pricing pressures will be “transitory” or shorter-term, however, it is looking like they may continue for at least the remainder of this year.  Meanwhile, the Federal Reserve (Fed) has announced that they are in the beginning stages of tapering their accommodative policy, including reducing their bond purchases and starting to raise interest rates. Consensus is that the Fed may raise interest rates 3 times this year and a similar amount next year. These actions, combined with the likelihood that we will see less fiscal stimulus, could help reduce some of the pricing pressures on the US economy. 

How may this impact your financial plan?

This may be an ideal time to review your spending plan.  If your income is not keeping up with your expenses, you may need to adjust your spending, increase your income or a combination of both. For retirees this is especially important in order to maintain the level of lifestyle you desire. For Social Security recipients, 2022 payments increased by 5.9% in January; this, however, may be offset by increases in health care premiums and health care costs.  For big-ticket purchases, this may also be a good time to evaluate those purchases to see if you should delay or adjust the timing of those purchases. If you are in the accumulation phase of your life, this is a great time to look at your savings plan and make sure you are still are on target for retirement. Many retirement plan contribution limits have had cost-of-living-adjustments (COLA) adjustments, which may allow you to increase your savings.       

Another opportunity is for borrowers to evaluate refinancing debt.  If higher inflation persists and rates rise over time, there may be a limited window to take advantage of the current low interest rate environment and lock in some great longer-term rates.

As for your investments, this may be a good time to review your asset allocation. Some asset classes tend to perform better than others during inflationary periods. If retired and withdrawing money from your portfolio, this too may be a great time to review your withdrawal rates. If you decide to adjust your withdrawal rates, make sure you have an adequate amount in conservative allocations so that you may continue to support your lifestyle needs. Should the Fed need to take more aggressive action due to unexpected inflation, this could lead to increased volatility with the broader markets. Making sure your asset allocation is aligned with your goals, as well as understanding your individual risk appetite, will be important to successfully navigate the current inflationary environment.

Although the current pricing pressures may be causing some angst in the near-term, it’s important to stay flexible with your financial plan while maintaining a long-term perspective. Should you have any questions, inflationary or otherwise, we encourage you to reach out to your financial advisor team.