Inflation and the investor!

this is a part of the inflation story in Moneymantra….

Well there are two things to understand – inflation hurts only in the long run. If you have an expenditure coming up in the next 2 years inflation should not be a bother. However if you are looking at the longer run – say upwards of 5 years, inflation should be a big worry, but can be tackled. It is not clear whether inflation in India will again go up very fast – the real estate sector in India did not suffer as much as the US, but it is going up again. Real estate going up is a good indicator that the smart money is moving into real estate.

Inflation is driven by supply and demand of the money. Unfortunately this has now become a global phenomenon. The RBI will have to play the game in various fronts – buying gold (or dumping dollars as some people call it), increasing interest rates, putting a ceiling on international borrowings, etc. will all have to be done simultaneously. Many commentators only look at the supply side of the equation. The supply is often, but not always, enough to determine the longer term trend of the purchasing power of the rupee especially vis-à-vis the dollar. In the short term, demand often has large effects.

For example, in the summer of 2008 many thought the dollar would continue to decline because of the supply of dollars. Fear about other currencies and a global crisis like Dubai (or the next one in Europe) can also strengthen the dollar. So playing the currency is also likely to be tricky.

In the slightly longer term, the supply of money (which has increased with the bailouts and economic stimulus) will surely have its effect all over the world. The large increase in supply has not had any immediate effect because demand had increased. However, when demand declines inflation will increase unless the money supply is reduced. The  rich nations – US, UK,France, and even Italy may be spurring more activity in foreign shores rather than their own shores. Impact of this again will be global.

So while in the slightly longer term there is likely to be inflation, in the short term, the US is likely to face the problem of deflation. Investing a part of your assets in securities that benefit from inflation will probably pay off if held long enough.

Planning for the slightly long term requirement of money is difficult because it involves guessing the prices of things in the future. Inflation makes it even more difficult by continually eroding a part of the value relentlessly over a long period of time (our investment horizon).

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One Response to “Inflation and the investor!”

  1. “Planning for the slightly long term requirement of money is difficult because it involves guessing the prices of things in the future”

    I agree , Just yesterday I wrote a post on Planning for CHild education and I can see that the target amount required can deviate heavily from what we save . So how do we solve this issue ?


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