Prices are rising. How to protect your budget from inflation

Experts are warning of rising inflation. Will it keep you from reaching your financial goals?



Myles Ma

Myles Ma

Senior Reporter

Myles Ma is a senior reporter at Policygenius, where he covers personal finance and insurance and writes the Easy Money newsletter. His expertise has been featured in The Washington Post, PBS, CNBC, CBS News, USA Today, HuffPost, Salon, Inc. Magazine, MarketWatch, and elsewhere.

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Banknote face - Freddie Collins (Unsplash)

The economy seems to be waking up after a year of pandemic-related slumber. But headlines are warning of a new threat to the recovery: inflation.

Inflation is a rise in prices. It's always taking place to some extent, but it can be bad for our budgets if costs rise faster than our wages.  

There are some signs inflation is happening. The Consumer Price Index, a government measure of inflation, rose 4.2% over the 12-month period ending in April. That’s the biggest increase since 2008. Meanwhile, average hourly earnings have stayed the same.

Costs are higher across the board. Used cars and trucks have become particularly expensive, rising 10% in price in April alone. Gas prices have increased almost 50% in the past 12 months. These numbers are higher than expected, said Daniel Shoag, an associate professor of economics at the Weatherhead School of Management at Case Western University, "but they were not disastrous." 

"The economy is still facing many challenges from COVID," Shoag said. "We will have to see if inflation is really a sustained problem, or whether we are seeing prices rise faster due to temporary features of the COVID recovery."

Whether inflation continues in the future, it's still squeezing your budget in the present. Here's how you can adjust.

How inflation affects your budget

Inflation makes things cost more. Obviously, this will make it harder for you to buy and save as much as you want.

You may have to put off the big trip you've been waiting to take after getting vaccinated or find other ways to limit your spending, said Julie Hall, a certified financial planner for Vision Capital Partners. 

"If it costs more to go buy your groceries or your gas, somebody's limited in what they can spend each year, then there would be some cutbacks we would make in other places," Hall said.

Carefully review your budget, separate out the discretionary expenses and look for areas to cut, she said. Another way people can adjust is to find ways to increase their income. As prices rise and the economy grows stronger, you may be in a good position to ask for a raise, Hall said. Some of her clients have also taken up side gigs to supplement their earnings. Read our interview with Side Hustle Nation founder Nick Loper to learn how to make time for a side hustle.

How inflation affects your savings

If prices are higher, your spending power is reduced and your cash is essentially worth less. With interest rates already low, inflation can corrode the value of your savings account. If you want higher returns, you may want to invest more of your money in stocks, though this comes with the risk of seeing their value drop.

One way to maintain the worth of your savings is to invest it in Treasury Inflation-Protected Securities, Hall said. Like other bonds, they pay interest and you can buy and sell them on the open market, but they are issued by the federal government and are indexed to inflation, meaning they maintain their value as inflation rises. Investing in TIPS has tax consequences, so as with any investment move, it's a good idea to talk to a professional financial adviser beforehand.

The future of inflation

Policymakers likely won't let inflation continue unabated. One of the key jobs of the Federal Reserve is to keep prices stable by controlling inflation. Historically, its response to inflation has been to raise interest rates. This means your savings account will earn more money, but encouraging saving means people spend less, which tends to cool off the economy. Either way, the Fed has given no sign that it will raise rates any time soon.

But you shouldn't wait for the Fed to act to make a move with your money, Hall said.

"If they can't make changes for whatever reason to provide relief," she said, "you've got to focus on what you can control."

Image: Freddie Collins / Unsplash