By Professor Ricardo “Rick” Ulivi, Ph.D.
March 2017
Inflation is a terrible economic variable because it lowers most people’s standard of living. A few, of course, can benefit from inflation but most lose. Therefore, we should be very concerned with it, especially given that it’s been so low for so long. Inflation is never totally out; it is always ready to spring and catch us unprepared. Is that moment now?
The relationship between the dollar and inflation
In the USA, we have a huge trade deficit; it’s close to $500 billion a year. This means we buy all sorts of stuff from abroad: cars, watches, tennis shoes, TVs, iPhones, etc. As long as the dollar is strong versus other currencies, the prices we pay for these imported goods tends to be low, and therefore acts as an anchor to inflation. That is, a strong dollar keeps inflation under control. That’s one of the reasons why we have had such low inflation for many years.
What would happen if suddenly the value of the dollar, vis-à-vis other currencies, where to drop, or lose value? The consequence of this drop is that it would require more dollars to pay for the same goodies; that is, higher prices would result, and inflation would be re-ignited. That is why it’s fundamental that you and I watch the value of the dollar at all times.
What’s the value of the dollar versus other currencies?
From the end of 2016 to now, the dollar has dropped about 5% compared to the major trading currencies of the USA. On the other hand, from 2014 thru 2016, it had increased in value about 27%, which is incredible and mainly explains why inflation has been so low lately. If this drop in the dollar value continues, you can expect an acceleration of inflation.
One great way to monitor the value of the dollar is to Google for the wsj dollar index.
This site lets you see the performance of the dollar on a daily basis or for different time periods. Check it out regularly.
What’s so bad about inflation accelerating?
Perhaps the most important variable that affects the level of interest rates is inflation. Given that the US economy is awash in super cheap credit, a rise in inflation would cause interest rates to increase too. What would this increase do to real estate, stock and bond prices? It would lower the values of these assets.
How would you feel if your investments were to be worth 25% less? It is also very likely that your income won’t go up as fast as inflation, which will result in a drop in your standard of living. Not a nice scenario!
My recommendation
Watch out for inflation, and therefore, keep a watchful eye on the value of the dollar vis-à-vis other currencies. It’s in your best interest!
To set an appointment to discuss this further or to review your finances, call me at 1-714-771-6000. But don’t wait; it’s your capital I am trying to protect.
