This Is How You Profit Off of Inflation

Dear reader,

The simple definition of inflation is when prices rise and the purchasing power of a currency drops. It means that you can buy less with your money than you used to be able to.

For example: 

In 1976, $1 million in savings X 15% interest = $150,0000 annually. You could live well on $150,000 a year in 1976. Things are very different today. Today, $1 million in savings X 2% interest = $20,000 annually. That is how much the value of money has gone down. And 2% interest is high today—current savings account rates are less than 1%. Let’s look at interest rates relative to inflation. If inflation is at 5%, you’re looking at losing 3% on your money per year. There is inflation because governments continue to print money.

All economies experience inflation (and deflation) at some point. But where it gets troublesome is when the income levels of a population don’t track with or exceed inflation. In that case, people become poorer, even if they think they are making more money.

For instance, employees are hurt by inflation because they can only sell their time, and time generally does not hedge against inflation well. Raises, if they come at all, generally come on an annual basis after inflation—not with it. And when inflation is underreported, raises hardly come at all. Additionally, people who are deep in credit card debt are hurt by inflation because the Fed generally raises interest rates to combat inflation. 

Finally, people who play by the old rules of money are hurt by inflation because they believe it is wise and prudent to save money in the bank. But the bank is smart, not dumb. And the bank plays by the new rules of money. They pay interest on money that doesn’t keep up with inflation. Money loses purchasing power as the bank uses your money to make more money.

What Causes Inflation?

Traditionally, inflation was measured by a fixed basket of goods period after period. This basket of goods was an agreed-upon basket of what it would take to have a good standard of living.

But as writes, that formula was changed in 1990 to match a popular academic concept called “constant level of satisfaction,” as a “true cost of living concept.”

The general argument was that changing relative costs of goods would result in consumer substitution of less-expensive goods for more-expensive goods. Allowing for substitution of goods within the formerly fixed-basket, the maximization of the “utility” of money held by consumers would allow attainment of “constant level of satisfaction” for the consumer. This type of inflation-measure is more appropriate for the GDP concept—where it is used today—measuring shifting weightings with actual consumption, rather than with the fixed weightings needed to assess the costs of maintaining a constant standard of living.

In simple terms, the statisticians made the assumption that if you were buying steak you would switch to less expensive hamburger if the price went up. This allowed the government to constantly switch the goods in the basket in order to manipulate the inflation rate to a lower rate, rather than to track the same goods each period.

Basically it was a way for the government to save money by, for instance, not having to increase Social Security payouts to match true inflation.

After the last financial crisis, the U.S. government began a program of quantitative easing (QE). A reminder that quantitative easing is when the Fed bolsters its balance sheet by buying treasuries to keep interest rates low. It’s the equivalent of you or I printing dollars to pay off our credit cards. The thinking behind the plan is that by keeping interest rates low, businesses and investors will borrow more money (which is also a form of printing money) and make more purchases.

The result of quantitative easing is always inflation since the Fed printing more and more money, and each dollar printed devalues the dollars already in print.

Translation: the Fed wants easy money, which always leads to inflation.

How to Profit From Inflation

The world banking system is built on the Fractional Reserve Banking System. This means that for every dollar a saver puts in the bank, the bank can lend a multiple of that dollar to debtors. For example, if the fractional reserve is 10, that means the bank can lend $10 for every $1 a saver deposits. If inflation is too high, the Central Bank (such as the Federal Reserve in the United States) can use its tools to effectively lower the fraction a bank can lend to, let’s say, 5… with only $5 dollars available to the bank to lend for every $1 deposited by a saver.

When banks lower interest rates as they are doing today, they are saying, “We do not want savers. We want debtors.” 

Low-interest rates on savings are forcing the middle class into the stock market and real estate markets, hoping for a better return on their money. The middle class is chasing “bubbles” in financial markets. If the bubbles burst, many in the middle class may lose everything.

Low-interest rates mean to me: “Please come and borrow money. Money is on sale.” 

For the rich, low-interest rates make it easier to get richer. For the poor and middle class, especially savers, low-interest rates spell financial disaster.

The reason my investments and income grow is that I purchase assets that hedge against inflation. For instance, in inflationary economies, rents generally rise. When I purchase an investment property, the debt payment stays the same while my rents rise due to inflation. This creates more cash flow. I owe the bank only the agreed payment. The rising costs for rent flow straight into my pocket.

The same thing happens for businesses. As the cost of goods rises for consumers, businesses can adjust their pricing and benefit from inflation.

This works because business owners and investors aren’t selling time. They’re selling a product that hedges against inflation in relatively real-time. They are in control. Employees aren’t in control of their product—time—nor are they in control of their money (the bank or mutual fund is).

One other thing I do to hedge against inflation is to invest in commodities. Recently that has been energy products like oil, a great investment when there is inflation. Not great when there’s deflation.

Therefore, while I believe they are good investments for me, they’re not good investments for everyone—especially people who are still learning about the economy and investing who may not be able to react quickly to changing economic conditions.

At the end of the day, what I’ve been preaching all along—invest for cash flow—is the safest and soundest strategy that will serve you well in an inflationary economy. It’s a sure way to grow richer.


Robert Kiyosaki

Robert Kiyosaki
Editor, Rich Dad Poor Dad Daily

You May Also Be Interested In:

Fed Coin: The Empire Strikes Back

Happy Hump Day! We’ve just had a typhoon run through the Phils again.  I love big, theatrical storms where the damage is minimal. It’s still overcast here. Though I love when the sun isn’t roasting my bald head, the gray pall, unfortunately, fits perfectly with this somewhat dystopian piece. Let’s have a chinwag… Central Bank...

Robert Kiyosaki

Robert Kiyosaki, author of bestseller Rich Dad Poor Dad as well as 25 others financial guide books, has spent his career working as a financial educator, entrepreneur, successful investor, real estate mogul, and motivational speaker, all while running the Rich Dad Company.

View More By Robert Kiyosaki