Shortages of raw materials, followed by exponentially rising prices: the current economic crisis is affecting all countries.
For individuals, and in the very specific case of inflation in 2022, this means a net increase in the cost of energy, food, and interest rates. As a result, our purchasing power and our savings are negatively impacted.
Here is an update on the situation - and on the ways to best prepare for it.
Inflation in a global context: the situation in the United States and Europe
Inflation from the US perspective
While this dark period of inflation is expected to continue in 2023 and up to 2026 (at least), 2022 was undoubtedly a tough year for the US and global markets with the current inflation rate in the U.S. at 5.9%, with a forecast of 1.5% over the next three years.
Durable goods, food, and energy are expected to experience significant deflation between 2023 and 2026.
A rather optimistic future made possible by how this record inflation came to be: because it mainly affected certain specific sectors such as energy, inflation should be able to regulate itself in the months to come.
For example, Morningstar's energy team predicts that oil prices will fall from an average of $97 per barrel in 2022 to $55 per barrel in 2025.
That’s if things stay as they are, of course.
Now let’s see on the European side.
Rising prices on the European market
While faster progress in fighting inflation is expected in the United States. Mostly due to the Fed’s heavy and early tightening of monetary policy (raising interest rates, etc.), this don’t seem to be going as fast in the Eurozone or the United Kingdom.
While the European Central Bank (ECB) is still dragging its feet to substantially raise interest rates, projections for headline inflation in the euro area has already been revised to 10% in September 2022, up from earlier 9% projections.
Among the hardest hit countries:
- the Baltic States, where inflation exceeds 20%
- Germany, where inflation is at an all-time high of 11%; and
- In the UK, inflation has already reached a peak of 10%
While projections are still set for an average of 6.2% in 2023, things are clearly moving fast.
For example, the European Union’s planned reductions in energy supplies from Russia are proving to be much more disruptive than assumed in its baseline projections.
In addition, we could see other sides of the current energy crisis erupting this winter. A diesel fuel shortage could be among them, as the fuel, previously supplied by Russia, could be hard to supply in parts of Europe, causing further significant economic difficulties.
Inflation, deflation, stagflation: what can we expect in 2023?
A period of inflation that takes hold
Even before Russia’s invasion of Ukraine, inflation was above central bank targets in most G20 economies.
Kickstarted by the pandemic, high levels of inflation were driven by bottlenecks in supply chains, rising freight costs, and the outpour of newly created money to sustain most G20 economies.
As the economy reopened, energy prices started surging, setting inflation on its current course. And the sharp pickup in consumer spending (thanks to the newly created money mentioned above) helped keep inflation at high levels for the next few months.
Food prices also started to increase in most countries, pushed up by supply chain disruptions and, in 2022, with the start of the war in Ukraine and sanctions against Russia.
Since then, inflationary pressures have become increasingly broad-based, meaning inflation has started spreading to different part of the economy, with higher commodities, wages and labour, manufacturing, or logistics costs being passed through into prices.
A short-term exit from the crisis?
With such widespread inflation, central banks have been thightening their monetary policy while supply chain bottlenecks have been slowly easing, which could slow inflation next year. But the ongoing energy crisis, and higher labour costs are likely to challenge this decline.
Earlier projections saw headline inflation easing from 8.2% in 2022 to 6.2% in 2023 in the G20 economies, and even decline from 6.2% in the G20 advanced economies this year to 4% in 2023.
But recent inflation numbers from September 2022 have already beaten these expectations, putting the Eurozone above 10% and Germany in double-digit territory for the first time in history.
The fast-moving and highly-unstable factors currently influencing inflation are hard to predict, to say the least, but, as winter approaches, the energy crisis is picking up pace and we are already seeing new flare-ups in covid cases.
Therefore, Europe and the G20 economies could very well experience reduced growth and high inflation for longer than expected.
But how does that affect us as consumers? How can we protect against inflation?
Here are a few tips.
How to combat inflation, at your level?
Compensating for the cost of living
Inflation means an increase in the cost of living. The first thing to do to rebalance your finances is to renegotiate your salary!
Well aware of the recurring problem of purchasing power caused by inflation, governments are putting measures in place to curb the risks of impoverishment: special bonuses, revisions of allowances and index points, etc.
And in their wake, some companies are following suit. But wage increases, when they are actually implemented, are only very rarely in line with inflation.
Where the euro zone has seen prices rise by more than 10%, wages have only timidly increased:
- + 3.1% in France
- + 3.8% in Germany
- + 3.6% in Spain
The reason why these increases are so contained is to avoid the domino effect mentioned above: higher wages mean higher prices for goods and services produced, and so on.
So try to renegotiate your salary or to add new revenue streams to compensate for your loss in purchasing power.
Saving rather than spending
If you have housing projects in mind (more on that later), you will certainly have noticed this: inflation is pushing up interest rates.
To simplify, the effect of inflation is a classic domino one:
- Inflation settles…
- … so central banks raise their interest rates to fight inflation…
- … so it becomes more expensive for banks to borrow money…
- … so banks raise their interest rates to make up for it…
- … so it becomes more expensive for consumers to borrow money.
This is a matter of security for the banks, which are more careful when it comes to granting financing for new projects. Indeed, if disposable income decreases, the risk of unpaid monthly payments increases.
But make no mistake: this increase is not only due to a higher risk for banks. In fact, rising interest rates is, at its core, a way to discourage consumer borrowing and therefore slow down the economy to fight against inflation.
This is a strong message from the banks - and a wise one: in times of inflation, control your spending more carefully, and learn how to save money by cutting out 'unnecessary' purchases.
How to protect your savings account in times of inflation?
To remain independent and preserve your purchasing power, it is best to protect your savings by choosing carefully where you put your personal funds.
This choice is all the more crucial as savings books and other savings accounts no longer inspire trust as their interest rates have stopped following inflation a long time ago to the detriment of their holders.
Indeed, If you earn 2% interests on your savings account and inflation is at 10%, you are actually losing 8% of those savings every year.
So the first way to protect your savings, would be to diversify it. Your bank savings account does not protect your wealth in times of inflation, and it could be time to use a more historically inflation-proof asset like gold, to keep some of your savings.
Investments to avoid when starting out
Investing in the stock market or in cryptocurrencies, even if it is in the trend, is not an investment to be favoured when you are looking to protect your savings and are not very informed about the market.
Many investors will tell you at length how they have seen their returns soar to amounts that would leave anyone dreaming.
But as you must have guessed, there is no investment that "works itself out" and bring easy returns, especially not in times of inflation and extreme market volatility.
And if you choose to start investing in stocks and crypto nonetheless, because you feel ready to take on the current level of risk, just remember to keep a close eye on prices and know how to bounce back in time if something goes wrong to avoid losing your stake.
And remember to keep a diversified portfolio: take the risk you feel comfortable with and balance that risk by also investing in safer assets.
And talking about “safe” investments…
Is housing safe in times of inflation?
Housing remains a star investment for most people looking for protection. It has to be said that investing in rental property is reassuring: you have a tangible asset which should technically not devalue over time and which provides an immediate income.
On paper, property seems to tick all the boxes of the perfect investment. But this is without taking into account two risk elements in times of inflation:
- it’s now harder to take out a loan from a bank to financea property
- with the loss in purchasing power there is an increased risk of unpaid rent.
And if you are betting on the increase in real estates prices to continue you might have to think again.
Pressured by higher inflation, tighter monetary policies, and the ongoing recession (official now in the U.K, and likely soon in other countries), real estate prices are decreasing in pace for the first time in some years, with the U.S., the U.K, Australia and parts of Europe already showing a slowdown in home sales and a price correction.
Gold, the best asset to combat inflation
Less well known than the investments mentioned above, physical gold remains an investment of choice for those who want to protect and diversify their savings.
Uncorrelated from the stock markets, the price of gold remains relatively stable over the long term. In the event of a major crisis such as the one we are currently experiencing, a counter-cyclical trend can even be observed: in other words, when stock markets collapse, the price of gold tends to rise in response.
If investing in gold does not allow for immediate profitability, it has some serious advantages in a time like this:
- protects from inflation (because the gold price tends to increase in times of inflation)
- helps you gain freedom from the banking system (that’s if you choose to store it with us 😉 )
- limits the risk of losses from market volatility, especially since the gold price forecast for the coming months seem to be quite positive.
To sum up, the hardest part could be behind us, and for now, 2023 suggests that, if not true deflation, then lower inflation might be what’s coming. But make sure your savings and investments are well protected against market volatility and inflation’s ripple effect on costs.
The good news is that there are solutions to protect your personal savings from an economic crisis that is a little too capricious: investment in precious metals, and particularly in gold.