How Inflation Shrinks Savings?

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How Inflation Shrinks Savings?

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Money allows us to trade goods and services by communicating their price. It serves as a unified token of value (e.g., bartering, coins, paper bills, digital money, etc.). Supply and demand determine the value of money.

Money has two functions. The first is to serve as a medium of exchange and a measuring unit for the value of goods/services. The second is to serve as a store of value – preserving value over time without depreciating. 

The value of money e.g. what and how much you can buy with it, fluctuates. When there is a sustained increase in the prices of goods and services, the value of money depreciates – a process called inflation.

Inflation is the rate at which the purchasing power decreases. It can be caused by various reasons, including increased production costs of goods and services, supply-demand discrepancies, or fiscal policies.

Inflation is measured in percentages and over a certain time period. Most of the time, it is at reasonable levels (~2%).

Moderate inflation can be positive for the economy since it stimulates spending instead of saving.

High inflation depreciates savings and negatively affects some investments.

As protection, investors seek hedging opportunities e.g., assets promising returns above the inflation rate or inflation-protected instruments.

Which rate of inflation would be considered worse for the economy?

"I could either watch it happen or be a part of it."

Elon Musk

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