Inflation: What it is, its causes and how to manage it

Contrary to what one might believe, inflation is not a modern phenomenon, but rather, it has existed for some time.

Inflation is the general and continuous increase in the price level of goods and services over a specific time horizon, usually one year. This means that to be considered as such, the increase must occur in most sectors of the economy.

We will see what exactly it is, what are its causes and the alternatives to protect against its effects, one of which is to invest not blindly, but by asking the right questions to choose well.

What is inflation and what are its effects? Inflation indicates a decrease in the purchasing power of a country's currency (and the people who live there!) and is expressed as a percentage. Many think that inflation is only bad, but some economists argue that controlled inflation can also be good, especially in times of economic stagnation.

How do you keep inflation under control?

There are many ways to control it: some work well while others can have harmful effects.

The most common is the use of a tight monetary policy by monetary authorities. In fact, by reducing the money supply in an economy or by raising interest rates, spending is likely to decrease. In reality, the central banks of developed economies have in recent years been faced with a situation in which inflation was low and have therefore tried to keep it close to 2%, in order to support growth, thus avoiding economic stagnation .

But what possibilities do we have to personally keep inflation under control, so as not to lose purchasing power? We have seen that it doesn't help us to forget the money in a coat, or "hide it under the mattress" or leave it in the bank account. The smart alternative is to invest and make sure that savings can grow and increase their purchasing power, or at least not lose it.

Phases of high growth rise in inflation generally correspond to falling markets. Adopting a recurring investment strategy, at regular intervals and for partial amounts of equal value, reduces the impact of price volatility on your investment and lowers its average cost (dollar cost averaging principle). This is the key to building a portfolio ready to earn more when the markets recover and therefore capable of beating inflation, i.e. maintaining the purchasing power of your savings over time.

Inflation consists of a generalized and prolonged increase in prices and this inevitably leads to a decrease in the purchasing power of money. Inflation, which has been on the rise for some time, can be considered as a real "hidden tax", which affects the annual expenditure of families. But now we hear more and more about how central banks, to try to contain runaway inflation, are raising interest rates. In recent days the ECB, the Fed and the Bank of England have all raised rates to contain inflation.

Almost a year into Russia's war of aggression against Ukraine, the EU economy entered 2023 in better shape than expected in the autumn. According to the interim winter forecast, growth prospects for this year rise to 0.8% in the EU and 0.9% in the euro area. For both the EU and the eurozone, the technical recession that was announced for year-end should be averted. The forecasts also slightly reduce the inflation projections for both 2023 and 2024.

The outlook improves thanks to greater resilience

After a sustained expansion in the first half of 2022, growth slowed in the third quarter, albeit slightly lower than forecast. Despite exceptional negative shocks, the EU economy avoided the fourth quarter contraction projected in the autumn forecast. The annual growth rate for 2022 is currently estimated at 3.5% in both the EU and the euro area.

Favorable developments compared to the autumn forecast have improved growth prospects for this year. The continued diversification of sources of supply and the sharp decline in consumption have left gas storage levels above the seasonal average for recent years and wholesale gas prices have fallen well below pre-war levels. Furthermore, the EU labor market continued to perform well and the unemployment rate remained at its record low of 6.1% until the end of 2022. Confidence is picking up and January analysis suggests that the economic activity is expected to avoid a contraction in the first quarter of 2023.

However, strong negative elements remain. Consumers and businesses continue to face high energy costs and core inflation (headline inflation excluding energy and unprocessed food) continued to rise in January, further eroding the purchasing power of families. As inflationary pressures persist, monetary tightening is expected to continue, weighing on business activity and holding back investment.

The winter interim forecast forecasts growth of 0.8% in the EU and 0.9% in the euro area for 2023, respectively 0.5 and 0.6 percentage points higher than in the autumn forecast. The growth rate for 2024 remains unchanged, at 1.6% and 1.5% respectively for the EU and the euro area. At the end of the forecast period, the production volume is expected to exceed the autumn forecast by almost 1%.