Effects of Inflation on Savings

Inflation Effects

Everyday we hear of commodity prices going up and the value of money going down. We’ve also heard of inflation and the global economic crisis having a far-reaching effects on the world economy. But have you ever stopped to think how inflation is affecting your everyday financial matters? How is it affecting your savings account?

If you haven’t given it much thought, perhaps it is time to do so. Below are few ways inflation affects your savings. By giving it a bit of thought, you can work out an alternate plan or be prepared, so you can keep more of your savings. Take a close look:

  1. Inflation Effects

    Inflation Gold—Paolo Camera (Flickr.com)

    Inflation Reduces the Value of Money: Initially you may have been able to buy a certain item at a certain price, a loaf of bread for a dollar for instance. But after the effects of inflation you may have to pay more to purchase the same amount of the commodity, for instance the same loaf of bread may cost $1.50, $2.00 or even $2.50. Inflation reduces the value of money thus making you pay more in the process. As a result, the value of the money in hand gets reduced and the amount that you thought of depositing into savings is spent covering the additional costs of purchasing necessities. This reduction in the value of money directly affects the purchasing power. With the increase in the prices of basic commodities like sugar, petrol, vegetables etc. you need to spend more money to buy the same amount of goods.  The problem lies in the fact that inflation causes the prices of products to rise but does your salary increase at the same rate? If not, you will have less and less to save as costs increase but your salary doesn’t keep up.

  2. Savings accounts affected negatively: If the interest paid on your savings account is more than the level of inflation your purchasing power will grow although less than it would have without the loss due to inflation. For instance, if inflation is 3% and your account pays 5% interest you are gaining a net of 2%.  This is known as the Real interest rate. However, if the inflation rate is 5% and your account pays 3%, you will lose purchasing power on your account. Currently interest rates are very low and so there is very little incentive for saving money.
  3. Poor performance by Equity (stock) markets: During periods of high inflation if companies can not pass their increased costs on to consumers, businesses suffer financial losses. This causes the value of the stocks to go down. Therefore, the investor who invested in the stock of that company will also suffer a financial setback. As profits of the company go down this affects the company, the employees and the shareholders.

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Author bio: Jonny Pean is a financial blogger and consultant with easyfinance.com. He writes on budgeting, savings, inflation and various financial issues. He also helps people to resolve their debt issues and live a stress free life.

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