Tuesday, June 2, 2009

How to Play Inflation

The federal government is going to need to borrow at least $1.8 trillion by October of this year. The national debt is growing and there seems no end in sight. Many people believe that this will lead to inflation as the value of the dollar drops. There are those who believe this will not happen. They point to Japan, where the supply of money increased, but since economic activity remained depressed, inflation never took hold. Inflation is actually the more optimistic view, so I'm going to go with that one. What strategies can one employ to navigate an inflationary environment?

I'm not a financial advisor, so I wont get into specific investment advice, but there are some general approaches one can take that make sense when the value of the dollar is falling. The most obvious is, if you have variable rate debt, fix it. Certainty may come at a bit of a premium, but it's tough to manage your cash flow when your debt payments are continually on the rise. Whether it's a revolving balance on your credit cards or an adjustable rate mortgage, talk to your lender of choice and see about taking some of that risk out of the equation.

Invest in yourself. If you've been considering making home improvements "someday", today might be a good day. If you believe the value of a dollar is going to drop faster than the value of a new deck, and you were going to get a deck anyway, you may as well make the swap. After all, you can't barbecue on pile of dollars. One great home improvement idea is the creation of a pantry, if you don't already have one. It can be as simple as putting up some shelves and it gives you the capacity to take advantage of "loss leaders" or specials on non-perishable items. Education is always a great investment. To get the most bang for your buck, choose an educational path that you're really interested in and can get passionate about. Tools also make good sense. Having the means to build, fix and maintain things on your own can save you a lot of money in the long run. Home improvement stores often offer free classes in construction, installation and repair techniques.

Invest in your business. If you're a business owner, an inflationary period can be a good time to get at that paint job you've been putting off, upgrade signage, shelves and equipment. Again, you're swapping cash for something you expect to hold its value longer. The government is inevitably going to attack its deficit with higher taxes, so investing in tax deductible improvements makes good sense. Also, we are going to come out of this situation at some point. Making improvements now will put you in a stronger position when the economy rights itself. If you believe inflation is coming and will be around for a while you may also want to get away from "just-in-time" inventory management. If you're only carrying a few weeks inventory, you'll just barely be able to keep up with rising prices. If you have the space and fairly consistent demand, going to a several month inventory strategy can help you stay ahead of the game.

Obviously you don't want to blow your life savings just because the dollar is falling. As I said, I'm not going to offer specific advice as to what to do with your long-term wealth. I will say, however, that if you believe that inflation is inevitable and your financial advisor doesn't, you need a new advisor. I could be wrong of course. Ultimately, it's your money and your call. Just be sure you and your fiduciary partners are on the same page.

Railing against the powers that be for financial mismanagement is your right as an American. It can make you feel better and it makes for good water-cooler conversation, but you still have to deal with the reality of the situation. Generally speaking, the keyword for our times is Value. Don't just spend. Spend wisely.

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