Credit Sesame survey indicates 93.5% Americans are losing the inflation battle.
For many Americans, fighting inflation is the battle of a lifetime – literally. Most people in the U.S. were not born the last time inflation was this high.
It’s no surprise, then, that inflation has taken consumers by surprise. As a result, the vast majority of them are losing the inflation battle.
What this means is that incomes are falling behind rising prices. That’s a problem for this week’s grocery shopping, and an even bigger problem long-term. Borrowing to cope with the income gap only makes the problem worse.
This article looks at the long-term financial risk that inflation poses, and offers ideas for protecting your finances against that risk.
Pay is not keeping up with price increases
A recent Credit Sesame survey found that for all but a few Americans, pay raises have not kept up with the recent surge of inflation:
Among employed respondents to the survey, only 6.5% had gotten a pay raise over the prior year that kept pace with inflation.
That leaves 93.5% of working people losing the battle to inflation.
Inflation has become a formidable foe. According to the Bureau of Labor Statistics, the Consumer Price Index rose by 8.6% for the twelve months through May of 2022.
Inflation has been higher this year than at any time since 1981. That’s forty years. Quickly-rising prices is bad enough. Even worse, people are unfamiliar with high inflation and the damage it can cause.
In essence, if you didn’t get a pay raise of at least 8.6% in the past year, in purchasing power terms it’s as if you took a pay cut. You’re doing the same work, but your earnings can purchase less.
The inflation battle is a long-term problem
Recent inflation has come as such a shock that some people view it as just a temporary problem. Don’t count on it.
As described below, there are three reasons why inflation can become a long-term problem for household finances.
1. Inflation has a way of feeding on itself
Once inflation takes hold it tends to have staying power. It creates a cycle that feeds on itself.
Merchants raise prices in response to the higher cost of supplies. Workers demand higher pay raises to keep up with rising prices. This triggers another round of price hikes, to cover those higher wages. And so on.
During the 1970s, the inflation rate stayed above its long-term average for over ten years. So, as unfamiliar as inflation has been over the past 40 years, you may now get to know it better than you’d like.
2. Lost ground is hard to make up
Suppose inflation does return to normal after a year or two. Even if your pay raises only trail behind it temporarily it’s hard to make up that gap.
Both pay raises and inflation tend to be based on a percentage of their current level. So, if you got a 4% pay increase this year, your next raise will be based on that new level of pay.
Similarly, since inflation was up by over 8% this year, all subsequent price increases will start from that new level.
So, if inflation is 8% and your pay raise is 4%, this may affect all future levels of prices and income. Unless something changes, once you fall behind you stay behind.
3. Retirement assumptions may be too low
Calculations about how much money people need for retirement include an assumption about what the inflation rate will be. Since very few people build an 8% inflation rate into their assumptions, those retirement projections would not provide as much purchasing power as originally planned.
This leaves retirement savers with a choice – either start putting more into their retirement plans to make up the difference, or settle for a cheaper lifestyle in retirement.
Given the long-term impact of inflation, it’s important to take action to fight back.
Now is the time to review career opportunities
Since letting your pay fall behind inflation can create a long-term loss in purchasing power, give special attention to getting everything you can out of your career.
Despite a slowing economy, the job market has stayed fairly strong this year. Now may be the time to look for new, better-paying opportunities.
Even if you stay with your current employer, get the most out of every pay review. Go in prepared with details of how you add value to the organization. Inquire about opportunities for promotion.
Since each successive pay raise is usually based on your existing income level, anything you can do to maximize your next pay raise could have long-term benefits.
Make smart choices about spending
Prices are up across the board, but some are up more than others. Try to reduce spending in the most expensive areas.
For example, energy costs have shown the highest increases over the past year. If you’ve been considering an energy-efficient upgrade to your HVAC system, now may be the time to pull that trigger.
This might also be the wrong year for long car trips and other travel. Finding things to do closer to home will allow you to spend more on having fun and less on just getting there.
Don’t add to inflation with poor borrowing decisions
The Credit Sesame survey also found that people are leaning more heavily on their credit cards to make ends meet as prices rise.
Credit cards have now surpassed debit cards as the most popular mode of payment. Also, more people are carrying high credit card balances.
The problem with this is that interest costs compound the inflationary effect of higher prices. To prevent this, make thoughtful choices about borrowing in this environment:
- Keep an eye on your credit score. Things like high use of credit, opening new accounts and late payments can hurt your credit score. This could drive up your credit card interest rate, and add to your inflation problem.
- Take a fresh look at credit card rates. Speaking of credit card rates, they’ve been rising this year. When credit card rates are on the move, they may change at different times and to different degrees. This is a good time to take a fresh look at which is your cheapest credit card option.
- Pay down credit aggressively. Minimum payment amounts on credit cards are calculated to keep you paying interest longer. Since interest compounds the effect of inflation, now is a good time to pay more than the minimum amount to pay less interest.
- Use alternatives to credit cards for long-term borrowing. If you carry a balance month after month, credit cards are a very expensive way to borrow. If you need to borrow for something you can’t pay off quickly, consider cheaper options like a personal loan or home equity loan.
The inflation battle is real. You aren’t going to beat it unless you take some steps to fight back.
Disclaimer: The article and information provided here is for informational purposes only and is not intended as a substitute for professional advice.
The Credit Sesame Personal Finance and Credit Survey 2022 was designed and executed by Credit Sesame using the Momentive Inc. survey tool. General population data was collected online May 20-21, 2022. The survey sample comprised 1,222 U.S. residents aged 18 to 99 years balanced for age and gender using U.S. Census data. The sample data is accurate to within + 2.88 percentage points using a 95% confidence level.