by Jack Lee
Currently the massive banking bailout is not going according to plan. The banks that have received some of the bailout cash are hording it. But, eventually it will find its way into the market place and then this huge issuance of currency is sure to trigger the next round of woes…inflation. We’re printing more money without the gold to back it up, so it takes more paper money to buy things… there’s your inflation. Simple or is it?
We’ve been fortunate for almost 30 years because we’ve not seen any serious inflation. Many companies have never had any experience operating in inflationary times and this unknown has created a certain amount of fear in the business world and the stock market. But, that is not exactly the area I wanted to focus on here, although it is a serious concern.
What we need to know is that inflation feeds on fear and panic buying. There’s a rush to get a product before it goes up again, this creates a sort of mob mentality that takes over and makes inflation worse. Of course we want a certain amount of buying to take place now to pull us out of the recession and this is what the big bailout was for, but it’s a fine line between encouraging buying and triggering inflation. In fact inflation is almost inevitable in our case and its effective is yet to be seen. This is yet one more unknown the stock market is trying to cope with and its just one more bit of bad news we could all do without, but understanding how inflation works can dispel some of the fear.
In our old style economy, big companies could pass along the increased prices to consumers, who due to stronger unions in those days were able to push wages higher to keep up. If their ability to raise prices fell behind, they had lots of cash reserves and knew that they could soon catch up. They just laid people off, shrunk inventories, and tight supplies then pushed up prices. All of this would continue until the economy ran out of gas. We then had a recession to cool things off. But, we’re an entrepuerial economy now and .50 cents of every dollar is generated by small businesses and how inflation will be checked is in a word, uncertain. Today model is also different because we’re entering the recession first, then we’re headed for inflation and we’re also in a global economy. This makes managing the recession and inflation all the tougher.
There is a bright spot! Inflation usually benefits highly leveraged borrowers, such as home mortgages, and we know they sure could use some help. Here is how it works: Let’s say you buy a new home for $150,000 (they are available now too) and you put $15,000 down and your home value goes up due to inflation by 10% in one year, well, that means you have just doubled your money. But, you say money was devalued by 10%. Yes, thats right and that takes $1500 of buying power out of $15,000. You’re still up by $13,500…are you getting it? Those who will suffer the most are retirees living on a fixed income, because the adjustments for inflation never really keep up. They need to be invested in assets that will adjust for inflation.
If an Obama presidency gets involved in too much socialism, like national healthcare and too much protectionism for unions, inflation could become critical…but for now lets not even go there. The current “threat” of inflation is bad enough.
In the recent months we’ve actually seen a roll back on pricing (deflation), thanks in large part to a 60% retreat in crude oil prices, but don’t be fooled. Deflation has almost run its course and next comes inflation. But, at least now you know how the basics of how it works and this should take some of the stress and fear out of facing the tougher times to come.
Tips from Belmont Business College:
So what can a small business do these days to try and weather this impending inflationary storm? Get back to basics and manage conservatively:
– Keep overhead low.
– Build cash reserves to buffer short term price increases that precede your ability to get higher prices from your customers.
– Watch your margins carefully. Worry about growing profits, not sales.
– Don’t lock into long-term contracts that have narrow margins with large customers.
– When inflation heats up even a little, be aggressive with frequent small price increases rather than waiting and trying to catch up at some point with one big jump.
– Pay down variable interest loans ASAP, especially now that interest rates are temporarily back down. As long as there is inflation, interest rates will keep going up over the long term.