Inflation: the forgotten monster

We thought it was under control. Not true. Inflation is alive and well, and the worldwide commodities crisis proves it. We have no choice but to face the beast head on.

To get an idea of the devastating effects inflation can have on the economy, look no further than the demonstrations incited by commodities prices in so many countries: Haïti, the Philippines, Egypt, Morocco, Senegal… and the list goes on.

In Zimbabwe, rising food prices are compounded by a catastrophic devaluation of the currency. As a result, inflation has reached the unimaginable rate of 100,000%. Prices for all kinds of goods have become prohibitive. Something as commonplace as toilet paper now costs the equivalent of $417! Not for the whole roll. Just one small square.

The causes are many

Of course, that kind of thing isn’t likely to happen here: if only out of respect for those affected, we should keep things in perspective. However, this situation is a warning for us. Sooner or later, the causes of the crisis will catch up with us and will have an impact on our cost of living. According to the experts, the nearly exponential growth in the demand for energy and natural resources in emerging countries is the source of this upsurge. As concerns the cost of commodities specifically, four major factors come into play:

• the impact of higher gas prices on farmers’ production costs;
• the hike in the cost of fertilizers – which has the same impact;
• the increasing use of grains to produce fuel, which causes shortages – in the U.S., 30% of the corn crop is now used to produce ethanol;
• on the commodities market, the growing influence of major investment funds that push up prices in anticipation of earning profits.

 It’s a bad apple

For the moment, Canada is being spared. Thanks to a strong loonie, we still have our purchasing power, especially where imported goods are concerned. As well, the higher
prices for some foods are offset by lower prices for others, as shown in the table below. Nevertheless, the price of grain-based foods, like bread and pasta, has risen substantially
this year. We don’t hear much about it, but a loaf of sliced bread already costs 40 cents more than it did a year ago. Besides, even if the price of some foods has dropped over the past year,
we mustn’t forget that these too could fall victim to strong inflationary pressure from one year to the next. Let’s take the price of beef, for example: in August of 2004, Statistics Canada reported an increase of approximately 19% over the previous year!

According to the economists, our grace period may soon be coming to an end. Emerging countries are getting ready to extensively “export” their inflation, and our food basket may be the first to feel it, both this fall and in 2009. Let’s not forget that cattle and pigs also eat grain… and it takes energy equivalent to half a litre of gas to produce a small 6-ounce steak. 

Get the calculator out

In the short term, such increases might make things difficult for families who have little manœuvring room. But, in the long term, we should all be concerned. Above all
else, the commodities crisis should prompt us to take another look at our calculations.

Indeed, it’s so easy to forget that day by day, inflation, like the tide, erodes our purchasing power and, as a result, the value of our savings. Even a modest rate of 2% to 3% could have a devastating effect by the time we’re ready to slow down or retire in 20, 30 or 40 years. In light of this, the Bank of Canada web site offers a very useful tool, the Inflation Calculator. With just a few clicks, you can see: 

• the impact inflation has had on the cost of living over the past 100 years;
• the value of a given investment in X years, after inflation.

The following examples were calculated using the Bank of Canada tool. 

Make sure you understand your situation

Having said this, the overall rate of inflation is just a figure. The impact of price increases varies according to the type of merchandise affected and how much each person relies on this merchandise. For example, families with two cars and long commutes to work are already affected by the current rise in oil prices. Those with several mouths to feed will likely feel the pinch next winter. And, if the central banks increase their rates to slow down inflation, anyone saddled with a high mortgage or a large loan will bear the brunt of that. 

There’s only one solution: always base your calculations on realistic assumptions – and seek expert advice to ensure you have control of the situation over the long term. 

In collaboration with Desjardins Financial Security Independent Network.
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