The economic slowdown has many people talking about deflation, or the falling costs of goods and services. Because of the recession, people are spending less money and prices of things across the board are going down. (At least theoretically.) To combat falling prices and get the economy moving again, the Federal Reserve has lowered interest rates to near zero and purchased billions in debt to increase the money supply in the market (also known as quantitative easing or “printing money”). The hope is that by injecting money into the market, lenders will start lending and consumers will start buying. The side effect of this process, however, may be the return of inflation.
Inflation occurs when the price of goods increases and/or the value of currency decreases. For the moment, this isn’t happening, but in the long term it's very possible. To prepare for that possibility, here are five things you can do to come out ahead:
1. Lock in your borrowing rates.
Interest rates are at all-time lows to encourage lending and borrowing, but that will change if and when inflation returns. To combat inflation, the Federal Reserve will likely increase interest rates, and variable rate loans will rise with them. It’s hard to predict when interest rates will move, but now is a good time to get a fixed rate loan. With the federal funds rate near zero, consumer interest rates are unlikely to fall any more. When they do go up, it may happen without a lot of advance warning. Don’t miss out.
2. Invest in Treasury inflation-protected securities, or TIPS.
With these Treasury securities,your principal is adjusted each month with inflation. So, if inflation is 4% on the year, the value of your bond will be increased by 4%. To measure inflation, the government uses the consumer price index, which factors in energy costs. That means TIPS are positively affected by upswings in oil prices.
3. Trust in gold.
No matter what happens to currency, there is always value in gold. You can invest in gold by buying bullion coins or by buying shares in a gold bullion exchange traded fund (ETF). If you choose to go the bullion route, store them securely yourself to avoid getting scammed by companies that promise to “keep them safe.”
4. Consider your home a hedge.
Real estate has taken a beating since the housing bubble burst, but if inflation is coming down the road, you’ll be happy you own a home. With inflation, home prices will rise and so will interest rates. That means, if you are looking to buy and have the money to do it, now is the time. Lock into a low fixed rate mortgage while you can. When inflation does hit, your home value will rise, but your mortgage payment will stay the same.
5. Avoid long-term fixed-rate investments.
If you purchase a fixed bank CD or annuity now and we move into an inflationary period, your yield will be fixed at a low rate and you’ll be losing money. Instead, choose a low risk investment vehicle that keeps up with inflation, like a money market fund. When interest rates go up to fight inflation, your yield will too.
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