Fighting inflation in 2022. How to counter inflation?
To combat the banking and debt crisis and the corona crisis, thousands of billions of euros were pumped into the economy. This led to unprecedented growth in the money supply, with inflation currently at its highest in years, at 7.6% in January 2022. But is the growth of the money supply the only cause? And what is a possible alternative to paper money, where there is no possibility of currency depreciation? You can read everything about fighting inflation in 2022 below.
What is inflation?
In order to come up with solutions to fighting inflation in 2022, we first have to understand inflation. Inflation, also known as currency depreciation, occurs when there is a general increase in the prices of goods and services. If the demand for a product rises, the price will rise if the supply is equal. If aggregate demand, the demand for all products in all markets in a country, increases, this will lead to an increase in the general price level. This creates inflation, or expenditure inflation.
How does inflation come about?
Since the banking and debt crisis in 2008, Central Banks have massively lowered interest rates and bought up government and corporate bonds on a large scale. They did this to stimulate the economy again after the credit crisis. This phenomenon was also continued during the corona crisis in order to prevent a ‘real’ crisis. The idea was that when interest rates were low, more would be borrowed and the economy would be stimulated.
This eventually led to a huge increase in the money supply.
According to several economists, too much money in circulation should lead to higher inflation sooner or later. We can experience this all too well today. The money supply has structurally increased much faster than the amount of tradable goods and services, ultimately leading to an increase in the general price level. In short, because there was so much extra money in circulation, it lost its value, so the purchasing power of the money has decreased greatly.
The chart below shows the annual inflation development in the Netherlands. The graph shows the development of inflation from 2002 to the beginning of 2022.
Examples of past inflation events
In the past, there have been a number of events where inflation got really out of hand. Below are some examples:
Inflation in Germany
Let’s take Germany as the first example, in November 1923, where hyperinflation severely shook up the social order. At that time, more than 140 billion marks was paid in Germany for one loaf of bread. The Germans’ money was suddenly worthless.
Inflation in Zimbabwe
In January 2009 there was also hyperinflation in Zimbabwe. A hundred thousand billion Zimbabwean dollar bill was issued there, which in reality was worth barely 230 euros. Nearly everyone in Zimbabwe was then a ‘millionaire’ or ‘billionaire’, yet there was enormous unemployment and poverty.
Inflation in Venezuela
An even more recent example of hyperinflation is Venezuela. In Venezuela, the economy is heavily dependent on oil revenues. The oil price fell sharply at one point, causing the bolívar – the national currency in Venezuela – to lose a lot of its value. In the summer of 2018, a cup of coffee in Venezuela cost more than one million bolívars, while the same cup of coffee cost only 450 bolívars in 2016.
Inflation in Russia
Russia is also experiencing massive inflation at the moment. Several analysts indicate that inflation could get so out of hand there, that the Russian economy could collapse just as hard as it did in 1998, during the ruble crisis. At the time, this crisis caused a stock market crash and a sharp fall in the value of the Russian currency. The value of the Russian ruble has already fallen by more than 30% this year, and the interest rate has been raised from 9.5% to 20%.
Past inflation threats that could play a role today
Inflation is currently rising significantly worldwide. This can have strong consequences and events from the past can start to repeat themselves.
At the moment there is not only an excessive amount of money, but there is also an increase in raw material prices. A limited price increase is usually beneficial to the economy because it encourages people to buy goods before they become even more expensive. Price increases, on the other hand, do become a problem if the percentage increase becomes too high. This can eventually lead to hyperinflation.
In 1923 in Germany inflation got so out of hand that prices even rose hour by hour. This eventually led to workers being paid twice a day as prices rose too quickly. Hyperinflation can also be accompanied by a so-called ‘run on the bank’, in which people withdraw their savings en masse from the bank to invest in possible foreign currencies.
The exact causes of hyperinflation vary from case to case, but an excessive amount of money remains one of the main causes. Prices will continue to rise as long as the state does not carry out monetary restructuring and puts more and more money into circulation. This is currently happening, and could certainly get out of hand with the above threats as a result.
Inflation and interest
Until a few months ago, the ECB had the money tap completely open. They did this so that the banks could support the companies with credit. These related support measures have led to inflation today. The markets had become addicted to free money, as it were, but that is really starting to come to an end. The Central Banks are starting to ease support gently. In short, there is less quantitative easing, which means that the purchasing policy can be quietly brought back to zero and interest rates can then be raised again. Maar wat betekent zo een uiteindelijke stijging van de rentestanden nou voor Nederland?
In recent years, low interest rates have been a major driver for the housing market in the Netherlands. Interest rates were so low that in reality it could only shoot up. But what does such a rise in interest rates mean for the housing market? In short, this means that the interest costs for new home buyers will also rise, so that a starter on the housing market with the same salary will still receive a lower mortgage. At the moment house prices are skyrocketing, which would mean that if interest rates rise, it will in principle become almost impossible to buy a house. The prices are simply too high. This could have major consequences on the housing market in the long run.
Inflation and investing
But is fighting inflation in 2022 possible through investing? The European economy is improving and that is why the European Central Bank (ECB) will gradually reduce support in the coming months. The European Central Bank will no longer extend the corona support program from the end of March 2022. The central bank will then no longer invest new money in government bonds and corporate bonds.
Central Bank support is gradually easing and inflation is expected to continue rising. All this with the ultimate goal of raising interest rates again. But what effect does a rise in interest rates have on investing your money?
A rise in interest rates can cause major panic in the stock market. A lot of investors invest with borrowed money, which means that they will have to pay more for a loan if the interest rate rises. These types of investors want to get rid of their shares very quickly. High interest rates also affect the profitability of companies. The shares of companies with large debts are then sold much faster due to the rise in interest rates than the shares of companies with less debt. This is because the investor is more likely to want to invest in shares of a company that is more solid.
In short, the phasing out of support from the Central Banks is definitely going to affect stock valuations. This is because many investors, because they invest with borrowed money, want to quickly get rid of their shares in the event of a possible rise in interest rates. In addition, in the event of a possible rise in interest rates, investors are not prepared to invest in shares of companies that do not pay dividends in the short term. In short, investors are simply unwilling to look ahead at possible profits that may only be paid out in a number of years.
Inflation and crypto
In the past, people sought refuge in gold in times of inflation. Paper money, as can be deduced from the story above, can be created to an unlimited extent. So people want to look for something that is scarce and precious, like gold that was in the past. If the demand for gold increases, the supply simply cannot grow indefinitely, because gold cannot be created to an unlimited extent.
Nowadays, many people also use a new alternative, namely crypto coins. This is also called digital gold, because crypto coins are also scarce and expensive. Cryptocurrencies are much more difficult to create than paper money and the production capacity of cryptominers is also very limited. So, is crypto the solution to fighting inflation in 2022?
Many people find cryptocurrencies even better than gold, as there is probably more gold to be found somewhere in the world. Bitcoin, for example, on the other hand, is limited to an absolute maximum of 21 million Bitcoins. So at some point it just ends.
In countries like Venezuela, Bitcoin is no longer seen as a speculative investment, but as an exit opportunity and a way to protect wealth from currency depreciation. The decentralized Bitcoin network can be a very attractive alternative in such cases, because it is a completely neutral network in which no one can make changes just like that. The Bitcoin is thus very unique as it is reliable and immutable.
**On the basis of this article, we do not encourage anyone to start investing. This article is not written for advisory purposes and is not intended as any form of expert (financial, tax or legal) advice. This article is purely for conveying knowledge and information. Thriven is therefore not liable for the correctness or completeness of the articles.
**Invest in Bitcoin or Ethereum? Do not forget that these coins certainly entail a certain degree of security, but are also associated with certain risks. Would you like to know how we can help you create a healthy balance between risk and return? Then schedule a free intake here.
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