Inflation is a word that has been tossed around a lot recently in the news and amongst economists. Many people are often fearful of inflation due to their uncertainty of its significance along with the negative connotation that typically accompanies it. However, while the implications of inflation can be complex, a basic understanding of what it is can be easily understood by anyone. Additionally, while inflation can cause financial hardship for people with large quantities of cash holdings, it can actually help folks who are diversified in hard assets such as real estate.
Inflation is a measure of the rising costs of services and goods in a given economy. In other words, a decline in purchasing power for a given amount of cash. An easy example would be a car which costs $10,000 to purchase today would cost $10,300 to purchase in a year in a market subjected to a 3% inflation rate. The problem with this is that if you have $10,000 today, but then choose to set that money aside and buy the car in a year, you would no longer be able to because the purchasing power of your $10,000 has decreased. In this way, the value of your money in relation to the car is now 3% lower than the previous year.
You can see that inflation can have tough consequences on savings and retirement accounts that are not placed in investment which are well outperforming the rate of inflation. This is where the fear comes in to play when hearing inflation talked about in the news. However, for the real estate investor inflation can actually be used in a beneficial way. Since real estate such as multifamily apartment buildings are a hard asset, their value increases with inflation. It’s important to understand that increases of a property value due to inflation are not the same as increases due to appreciation of a strong market with job and population growth. What this means is that if an investor chooses to place their savings or retirement into a real estate asset instead of leaving it as liquid cash or in low performing investment, they can actually take advantage of inflation by allowing their cash to increase along with the inflation since they are invested in a hard asset.
While there are not any crystal balls to predict oncoming increases of inflation, raising interest rates and new money being printed are two ways that inflation increases are stimulated. Investors who live in an economy with these signs should consider placing their money in real estate as a hedge against inflation.
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