Economists rarely agree on anything, which is odd since you’d think economics would be more like physics. Physicists usually get the same answer to a problem, whereas economists almost never do. But today, economists appear to be a leaning toward the same conclusion – enough already with the low rates and low inflation!
Inflation can be bad. It makes a dollar bill in your pocket worth less when prices rise. Inflation makes rates go up too, which makes borrowing money more expensive, and thus leads to less consumer buying and less investing by people and businesses, both of which lead to fewer jobs. These bad traits of inflation are what led the government to do everything it could over the last 6 years to keep inflation low.
But inflation can be good too. Inflation tends to raise wages, increase potential for store owners to grow revenue, and increase rates on savings accounts. If inflation in the U.S. is higher than in other countries, then foreign currency gets more valuable than ours, and they start buying more of our stuff, which increases our exports, and puts people to work. But there’s another, even more important reason inflation is good, and it has to do with the fact that about 50 million families in the U.S. have a mortgage on their home.
Inflation has the power to create home equity. “Home Equity” is the difference between the market value of your home and the balance of the mortgage. If you have a $200,000 home and a $180,000 mortgage, you have $20,000 in equity.
Check out the power of inflation on equity in this example. Let’s say there is 5% inflation over a period of time. That $200,000 home will be worth $210,000 from inflation. If the family sells it, they’ll get $210,000 in cash and have to give $180,000 to the bank to pay off the mortgage, leaving them $30,000. Not bad – the 5% inflation made the equity go from $20,000 to $30,000, a whopping 50% increase! That’s 10 times the inflation rate! For the math geeks, that’s because the house was worth 10 times more than their initial equity, 200 to 20. That’s what they call “leverage”. (This example leaves out the costs of selling, like commissions and appraisals, but the concept holds).
So, after all that anti-inflation rhetoric, it looks like we’re going to actually try to make it go up. To continue this topic, here’s a NYT article about why we need more inflation and what to expect: In Fed and Out, Many Now Think Inflation Helps.