Dealing with Inflation and Your Finances

On February 24th, 2022, Russia invaded the Ukraine, setting off an inflation spiral not seen since the early 1980s. As Russia is the 3rd largest producer of oil and natural gas (behind Saudi Arabia and the USA) the impact of declining reserves was immediate in the prices we paid at the pump this last Spring.

The rise in oil and gas prices in turn escalated the cost of all consumer goods, services, and food items so that the rate of inflation for June 2022 was 9.3%.

What exactly is inflation in economic terms?

Inflation is a rise in prices, which can be translated as the decline of purchasing power over a specific period. The rate at which purchasing power drops can be reflected in the average price increase of the same basket of selected goods and services over the same time frame. Typically, it is quoted as an annual figure.

60 years ago, the inflation rate in Canada in 1962 was 1.06%

20 Years later in 1982, it was 10.77%

By 2022 it had fallen to 2.26%

For 2022 it is estimated to be 7.7%

What can be done to ease the pain of inflation?

Dealing with Debt

Consider consolidating debt from high-interest credit cards to a more manageable personal loan or Line of Credit.

Lock in a fixed mortgage rate before an upcoming Bank of Canada announcement on rate increases.

Think twice before taking on additional debt for high-ticket items like boats, Skidoos, or recreational property.

If buying a boat or water/snowmobile buy in the off-season and look at bankruptcy auctions before buying new.

If purchasing a new vehicle look at the manufacturer’s in-house financing that many times is 50% less expensive than your bank’s personal car loan.

Stick to a Monthly Budget

This is the time to review discretionary spending like daily trips to Starbucks, regularly using food delivery services, and owning multiple streaming services that you rarely use.

Postpone new purchases until the sales show up closer to the holiday season.

Consider a local vacation rather than being held hostage to a lower Canadian Dollar in the USA or Europe. A lower Canadian currency greatly impacts the amount of funds required to purchase U.S. dollars or Euros.

Understand the implications of early retirement

A 5% rate of inflation also erodes the savings you have built up. Therefore, the calculations being used by you and your financial advisor to determine a Net Rate of Return (Growth minus Inflation & Taxes) need to be realistic.

Postponing, the year you take CPP, even by one year, increases the annual rate by up to 7%.

Lastly, the fact that you have continued salary for an additional 1-2 years allows for increased savings and reduced spending on leisure activities. 

Working part-time or contracting back to your present employer (if applicable) may be a suitable option as you work your way towards full retirement.

Be keenly aware of how inflation affects certain investments

Existing Fixed Income assets like Bonds and GICs are the most impacted by high inflation. Bonds and Fixed Income Funds lose value if they do not offer an inflation hedge like indexing.

Long GICs terms are also impacted and should you seek security for your capital, invest in shorter-term GICs. Typically interest rates rise as the Bank of Canada uses rates to bring down inflation, so High-Interest Savings accounts or Money Market Funds tend to be a suitable option until rates stabilize. 

Review & recalibrate your long-term risks

Should your life insurance and Critical Illness policies be increased to protect against the ravages of inflation? While a $500,000 insurance policy purchased in 1982 was considered meaningful, 40 years later the amount has been reduced by 2/3rds once inflation is factored in.