How Does Inflation Work?

Learn how inflation works, how it could impact your savings, and how gold and other precious metals can help.

Have you ever heard anybody say that money evaporates? If so, they may have been at least partly referring to the fact that the value of money tends to shrink over time because of inflation. Inflation is simply defined as the decrease in the purchasing power of money over time because of price increases. Causes of inflation could include a decrease in supply, an increase in demand, corporate decisions to raise prices, and more. Whatever factor or combination of factors cause inflation, in the United States it is more common to experience inflationary years than not.

One easy way to see the impact of inflation is with the Bureau of Labor Statistics inflation calculator ¹. By using this calculator, you can determine that one would need over $750 to enjoy the buying power that $100 had fifty years ago. You would need over $120 to replace the buying power that a $100 bill had only 10 years ago. The further back you go, the greater the purchasing value of a certain sum of money.

How Has Inflation Impacted the Dollar Historically?

According to the World Bank, U.S. inflation has been relatively modest each year over the past few years. For example, the rate of increase was 1.5 and 1.6 percent in 2013 and 2014. However, prices increased, or the dollar declined, by 3.2 percent in 2011. Over time, these small increases add up. Also, according to Statista, in the 1990s and first decade of the 21st century, inflation rates that approached or exceeded 3 percent were not uncommon. In 1990, the inflation rate jumped to over 5 percent.

It’s also informative to note that the inflation rate was slightly negative in 2009, probably because of the Great Recession. Negative inflation is usually called deflation. The U.S. does experience deflationary periods, but they are less common than inflationary periods.

What Do Precious Metals Have to Do With Inflation?

For people who hope to save for retirement or some other particular financial goal, inflation makes planning tricky. It is difficult to estimate this year’s potential inflation rate. Planning for saving a certain amount of purchasing power for a decade or more in the future is really difficult to determine. One reason that many people buy gold is to preserve the purchasing power of their savings.

While the dollar and other currencies might decline in value because of inflation, precious metals tend to hold their value. That is, gold pricing might be in dollars, Euros, GBP or another currency, but that price reflects a certain amount of buying power that tends to stay stable or even increase just when other currencies decline in value.

Consider that in 2005, the average price of an ounce of gold was about $445. In 2014 and 2015, the average price of gold has been closer to $1,200. An investment in gold ten years ago surely would have made up for the 20 percent decline in purchasing power of the dollar. While the past is no guarantee of the future, researching historical periods yields plenty of examples of gold holding its value.

Gold as a Hedge Against Inflation

If money evaporates over time, one way to close the lid might be to invest some savings in gold. For example, many retirement savers choose to invest some of their savings in a gold IRA as a way to protect their money against the constant erosion of inflation. At Scottsdale Bullion and Coin, we are always eager to help you understand how you can use precious metals to secure your retirement.

1. http://www.bls.gov/data/inflation_calculator.htm