The rate of inflation has risen significantly in the US over the past few years. Whereas the current long-term inflation rate is hovering around 4%, it skyrocketed to almost 9% in 2022. And while inflation has started to drop, it’s still a major issue for many Americans. That's because inflation decreases your purchasing power – in other words, the cost of things like groceries, gas, and other goods has gone up disproportionately to most people’s income.
It's important to learn how to maximize your purchasing power during times of inflation to ensure that your income can cover your expenses and maintain your standard of living.
What is Purchasing Power?
Essentially, purchasing power (or spending power) is the value of the dollar in relation to the amount of goods and services you can purchase. Your purchasing power tends to drop during high inflation. The reason is that the rising prices reduces how much you can afford to buy.
Inflation can affect everything from your ability to buy everyday goods at the grocery store to the value of your investments.
Here are a couple of other reasons why spending power drops during times of inflation:
- The cost of living rises more rapidly than your income
- Interest rates for things like mortgage loans and credit cards increase
Say, for example, you spent $100 on groceries in the year 2000. In 2023, you'd need to spend about $166 to cover that same shopping trip, thanks to inflation. You can therefore see that if your income hasn't risen in proportion to your spending, your purchasing power will be lower.
If you’re trying to find ways to maximize your purchasing power during times of high inflation, here are some helpful strategies.
Ways to Maximize Your Purchasing Power
Inflation can be stressful, no matter how much money you make. Fortunately, here are some tips to maximize your purchasing power, combat inflation, and lessen the financial burden:
- Examine your nonessential spending. "Discretionary spending" refers to expenses like entertainment, dining out, and vacations. Take a look and try to cut back. Even reducing your spending by $100 a month can help combat the effects of inflation. Cut back on expensive hobbies, buy generic brands, and take advantage of store loyalty programs.
- Up your savings. Increase your savings in your daily life. Close any credit card accounts with an annual fee. Negotiate with your insurance companies for a lower premium. Eliminate some monthly subscriptions. Switch to a more affordable internet or phone plan. And always have money in savings to provide financial cushion.
- Pay down high-interest debt. Credit card interest rates are currently at an all-time high of more than 20%, thanks to inflation. The longer you carry a balance, the more you’ll end up paying in interest. Try to pay down your debts sooner to free up cash flow.
- Improve your employment situation. If you’re working within a limited income, consider taking on a side hustle or freelance work. Or take on an additional shift at work. Even working a few extra hours each week can help you pay for things like groceries or utilities.
- Ask for a promotion or a raise. If you’ve been at your current company for a while, you may be due for a promotion or a raise. Speak with your employer and demonstrate the value you bring to the team. They may be willing to negotiate with you. (See our tips on How to Improve Your Employment in Times of Inflation).
- Take on low-risk investments. Another way to help combat inflation and its impact on your purchasing power is to diversify your portfolio with low-risk investments. This includes things like treasury bonds, money market accounts, commodities like gold, and valuable art.
- Get a high-yield savings account. High-yield savings accounts tend to pay out more in interest than traditional savings accounts. Some credit uniosn, community banks, and online financial institution are currently offering interest rates of 4%.
Inflation is Personal
As inflation rises, it’s important to understand that inflation does not affect everyone equally. It often hits low-income households the most. In fact, one Gallup study found that around 71% of households that make under $40,000 a year experience financial hardship due to inflation.
One of the biggest reasons for this is that lower income individuals and families tend to spend most of their income on the essentials – like rent or groceries – and have a harder time cutting back on discretionary spending. Another possible reason is that they typically have less money to put toward investments or other assets that pay out in interest.
But income isn’t the only factor at play. Your unique circumstances also plays a major role in how inflation impacts you. That’s why it’s important to make your inflation plan of attack based on your personal financial situation and needs.
You can combat inflation and its effect on you by understanding your unique circumstances and goals and planning accordingly.
Know Your Personal Inflation Rate
Rather than viewing your purchasing power or inflation in simple numbers, think about your financial situation. This can give you a better idea of your personal inflation rate.
Say, for example, you’re single and living in an expensive city but have a great deal on rent – perhaps due to living in an older building or having several roommates. Along with this, say you also don’t own a car and only take public transportation whenever you go out. Your cost of living is likely to be much lower than the average person, and your purchasing power may go much further.
Now, say you’re approaching retirement and are planning for those last few years at work. Perhaps you no longer have a mortgage and qualify for an income-based health care plan. Your needs – and circumstances – are probably very different from a recent college graduate just starting out.
Ultimately, knowing your personal inflation rate goes a long way to helping you make a plan that works for you and helps your money go further.
Your purchasing power during inflation – especially high inflation – tends to drop significantly. However, you can combat inflation and its effect on you by understanding your unique circumstances and goals and planning accordingly.
Consider your discretionary spending, pay down high-interest debts, assess your income situation, and invest in low-risk categories. Doing these things can help maximize your spending power and reduce the impact of inflation on your household.