The Impact of Interest Rates & Inflation

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The Impact of Interest Rates & Inflation

Inflation remains low. The Fed seems a little worried about it, and expert opinion is mixed about what this could mean for the US economy. If low inflation just means prices are rising less, then why should we care?

Impacts of low inflation

When inflation is low, that means prices in the US are lower. This can cause a few problems.

Falling prices means there will be less production. Lower production slows down the economy and could lead to higher unemployment.

Secondly, if people expect inflation to keep going down, they may decide to leave purchases for the future instead of the present, believing it will be cheaper in the future instead of now. Delaying purchases lowers demand for goods, which also leads to economic slowdown.

While we may enjoy the lower prices now, as it seems like everything we buy kind of went on sale, it may not be what’s best for the economy as a whole. For the economy to be healthy, it needs to hover around its natural rate of inflation. If it remains too much lower for too much longer, it could end up causing a rise in unemployment.

What will the Fed do?

The Fed has a goal to try and keep inflation at a certain level each year, typically 2%. But inflation continues to stay under their goal. Usually when the Fed wants to cause inflation, they implement measures to expand the economy, such as lowering interest rates or printing more money.

We know, however, the Fed as of now is standing by their choice to raise interest rates. Raising rates is usually an action taken to reign in the economy and lower inflation. While this may seem like a contradictory plan, the Fed believes the rise in rates is a signal the US economy is strong.

A strong economy has higher inflation around 2%. With the global slowdown, volatility, and low inflation, it makes one wonder if the US economy will be able to withstand the Fed’s decision. We do not believe the Fed will be able to keep their word and raise interest rates this year a quarter percent four times. With oil plummeting and the strength of the dollar of which both of these are actually deflationary indicators, it will be difficult for the Fed to raise rates as they predicted.

Now is the time to make sure your portfolio has the correct risk assessment and proper asset allocation. We believe this market will start testing new lows and the probability of a recession is high. As you near retirement or if you are in retirement you need to have a clear understanding of the purpose of your money. Will your money be used for income to maintain your lifestyle or will it be used for speculation? It is possible to have two buckets, just keep in mind they both use very different strategies. Understand volatility is not a friend of income. Feel free to comment or contact us with any questions.

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