How to manage your money when inflation is high

IIf you’ve bought gas, groceries, a car, a house, or just about anything else lately, you’ve noticed that things are getting expensive fast. In March, inflation hit 8.5%, the largest year-on-year increase in over 4 decades.

Inflation is usually the result of an imbalance in supply or demand. What makes this bout of inflation somewhat unique, however, is that the economy is under pressure from both sides, explains Lindsey Bell, chief markets and money strategist at Ally Financial.

“On the supply side, COVID has obviously been the main driver, where there have been significant bottlenecks in supply chains and a slowdown in production and shipping,” she said, adding that talent shortages and the war in Ukraine have been contributing to supply shortages of late. “During this post-pandemic period, there has also been increased demand, driven in part by the stimulus that put money in the hands of consumers and into the marketplace.”

Many Americans have little experience of saving, spending, budgeting, and investing in such a high-inflation environment. This is how the experts recommend prioritizing your finances in the coming months.

Step 1: Create a budget

Having a budget is always the best way to keep expenses under control, and in recent years inflation has prompted many Americans to take up the practice. According to a survey, 80% are planning their spending in 2021, compared to just 68% in 2019.

If you’re in that 20% who haven’t decided on your spending yet, now is the time to do so “just to track how you’re spending and what you’re spending on, as there have been significant price changes across different categories.” ‘ says Bell.

A few simple cost-cutting measures that can counteract rising prices, according to Bell, are checking and canceling subscription services and consulting online price comparison sites before filling up. “The easiest way to switch from branded to private label is in the grocery store,” she says.

Step 2: Pay off existing variable debt

Many push debt settlement down the bottom of their financial priority list and do so with the money they have left over at the end of the month. Paying off debt — especially variable-rate debt like credit cards, lines of credit, personal loans, and adjustable-rate mortgages — should now come second to the cost of living and far ahead of investments, says author, financial advisor and founder of Live, Learn, Plan, Jay Zigmont.

“While there are many things you can do to invest, if you’re getting something like 16% or 18% interest on a credit card, you’re not going to beat that with any investment,” he says.

Step 3: Maintain a rainy day fund

When prices are rising, it can be tempting to look for investments that keep pace with inflation. However, before you consider where to invest, the experts recommend setting aside enough cash to deal with any immediate financial challenges. As simple as it may sound, fewer than half of Americans have enough savings to cover a $1,000 emergency expense.

“If you have debt, pay it off first, but second, put it in an emergency fund,” says Zigmont, adding that those funds only accrue a fraction of a percentage point in interest. “An emergency fund stays in a high-yielding savings account, and frankly, you’re effectively losing money because of inflation, but it has a job — to be there in an emergency — so you don’t want to risk that.”

Step 4: Explore the bond market

Those who are debt free and have staved off their living expenses for 3 to 6 months should then explore investment options that are both safe and guaranteed to keep pace with inflation.

The first such product that both Bell and Zigmont propose to explore is I-Bonds, backed by the US Treasury Department and linked to the consumer price index. That’s because the interest rate is adjusted every six months — in May and November — based on the rate of inflation, and can be paid out after a year.

“If you think inflation is going to keep rising over the next six months, this isn’t a bad place, but you can only invest $10,000 each year, so your investment is limited,” Bell says.

The next government-backed investment to consider is called Treasury Inflation-Protected Securities, or TIPS. “Dive into the fixed income market with TIPS when you don’t need that money for more than two years is a more advantageous place,” adds Bell.

Bonds can be purchased through your bank, broker or on the TreasuryDirect website.

Step 5: Invest in your home

Property prices have skyrocketed recently, which is good news for existing homeowners and not so great for those looking to enter the market. Rising interest rates could cool the market a bit, but Bell says renters should probably wait a little longer before buying their first home.

Despite the rising cost of building materials and labor, she also advises homeowners to invest in their current properties before buying a new home.

“Home improvements continue to be economical as long as house prices are rising,” she says, adding, “Economists expect house prices to remain high even as mortgage rates are rising.”

The final result

Between stimulus checks, meme stocks, and the crypto craze, the market’s oddities and opportunities have inspired many Americans to dip their toes in the investing waters over the past several years. However, with inflation soaring, now is the time to back away from these riskier opportunities and return to best practices for protecting wealth. That means budgeting, paying off debt and setting up an emergency fund before you put your money on the market, and investing in safer assets tied to inflation.

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Justin Scacco

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