What Is Inflation And Why Is It So Important To Understand?

Inflation is the rate at which the general level of prices for goods and services is rising, and purchasing power of currency is falling.  It is very important to understand and know where current levels of inflation are because it effects our everyday lives.  It impacts our purchasing power and our government’s policies. 

Some recent reports that breakdown levels of inflation are the Consumer Price Index (CPI), the Producer Price Index (PPI) and the Fed’s favorite gauge, the Personal Income and Outlays (PCE).

Last week’s CPI report showed that inflation ticked slightly lower from 2.7% to 2.3%, but its “core” read, which subtracts out food and energy costs, stayed unchanged at 2.2%.  These are tamer reads, but are still over the benchmark 2%, which are at levels that we want to keep our eye on.

The PPI came in at 2.6% which is a slight drop from its 2.8% prior read.  The portion of the report that extracts food and energy costs gave it a hot 2.9%.  This is a hotter number, but inflation at the Producer level isn’t seen as impactful because producers can alter their margins to make it less impactful. 

The PCE report came in at 2.2% which dropped 0.1% from its prior read. Its “core” rate, that removes food and energy costs (which are very volatile), came in at the Fed’s target of 2%.  Still a tame number, but something we need to be aware of.

When there are higher levels of inflation, traders and investors tend to invest less in Bonds and Treasuries because inflation erodes the amount of income made on that fixed investment.  Because of this lowered demand or appetite for these types of investments, Bond and Treasury prices tend to drop and in-turn, impact interest rates negatively or push them higher.  We all need to keep our fingers on the pulse and be aware of our changing environment.  If inflation rises and demand for Bonds continue to lessen, we might see this push interest rates higher.   If inflation weakens and demand for Bonds and Treasuries increases then we will see a push for lower interest rates.