It is likely that consumers are most concerned about the degree of risk.
Luckily for the insurance professional, most consumers are aware that risk is part of investing. What they may not be fully aware of is the degree of risk involved.
All investments have risk; there are no exceptions. Even such minimal things as a passbook savings account carries risk: inflation. By 1999 infla-tion has seen all-time lows. That in itself is a risk for some investors. As far back as baby boomers can remember, America was coping with much higher rates of inflation. By 1999, inflation had virtually disappeared in comparison with past years.
Inflation
Consumer prices in industrial countries rose less in 1998 than any year since 1955. The United States was so close to price stability that consumer prices increased just 1.7 percent in 1998. Because inflation lowered so gradually, most people were unaware of exactly how they had been affected.
What they did notice was the loss of big wage increases and lowered interest income. However, even though raises are much smaller during low inflation, buying power is greater. Therefore, those smaller raises are buying more goods. This fact, even when stated, may not be a comfort to our workers.
Half the people surveyed by Yale University economist Robert Shiller in 1996 said a raise would give them greater job satisfaction even if prices went up the same amount.
It is not only the younger citizens that feel cheated by less raises and in-terest income. Social Security cost-of-living adjustments, tied to the econ-omy, also seem very small. In 1998, the government announced that the adjustment would be only 1.3 percent. News anchor Tom Brokaw called it the “downside of low inflation.” What wasn’t stated by Brokaw was that this smallest adjustment in 12 years also reflected the smallest rise in consumer prices in 12 years. In other words, there was more buying power per dollar.
Despite this fact, most people felt shortchanged. This attitude should not All investments have risk; there are no exceptions.
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surprise anyone since we still feel like we are living in an inflation charged economy. Perhaps that is because few prices come down; they simply stop rising. As a result, we do not tend to realize that inflation is so low.
No one should think that inflation will stay low. Currency devaluations in Asia and Latin America are causing higher inflation in those countries. In America, the luxury of low unemployment and robust economic growth could actually spark the reoccurrence of inflation at some point.
Some economists now feel that high rates of inflation eventually damage an economy by distorting certain markets, undermining public confidence in their government, and forcing all sorts of hoop-jumping to stay ahead finan-cially. In the early 1980s most union contracts called for cost-of-living ad-justments, but that is down 60 percent today. Why? Our cost-of-living is increasing so little, it just isn’t worth the effort or the pay it would bring.
When inflation was high, there were certain benefits for some groups of people, primarily the retired population. Their investments earned enough interest that they could hope to live off it, sparing their principle from ex-penditure. With low inflation rates, that may not be true. More and more retirees say they must tap into their principle just to make ends meet. Even though the cost of living is stable, they failed to save enough to support them during low inflationary periods. Of course, high inflation will also affect those who saved too little, but it is easier to blame it on low interest rates than it is to blame it on saving too little too late.
Home buying brings about an oddity when inflation is low. In the past, many people bought houses with payments higher than they should be for the income they had. They did so because large raises allowed them to
“grow into” their mortgage payments, which stayed the same on a fixed rate loan. With low inflation, the advent of high raises is much less likely.
Therefore, it can be a foolish move to purchase a house with payments that are too high for one’s income. On the other hand, more people can afford to buy a home when rates are low. The lower interest rates keep payments lower as well.
In America, the luxury of low unemployment and robust economic growth could actually spark the reoccurrence of inflation at some point.
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Other types of purchases happen when interest rates are low, which further pushes our economy ahead. Especially car sales increase when interest rates are low. Even people with modest incomes can often afford the pur-chase of a new car when interest rates help to keep the car payments af-fordable.
There is also another point of interest during low inflationary periods: cor-porate executes are much less likely to show sales and profits that are rec-ord setters. During inflationary periods, both sales and profits seem larger because inflation boosts the numbers. Loss of record setting sales should not be a negative factor, however, because low inflation also allows corpora-tions and shareholders to pay fewer taxes.
Because of the length of our lower inflation rates, the federal government is finding it necessary to address some new concerns. Can inflation be too low for our country’s good? What happens if short-term interest rates get so close to zero (as they have in Japan) that they can’t go any lower, even if a recession sets in?
We were outraged during high inflation at the prices we paid for goods and services. Quickly increasing paychecks often kept pace, but we never really got ahead. Sometimes, we continued to sink as costs outpaced income.
Even so, it seemed that our rising pay was a “pat on the back” for a job well done. Comparing paychecks was the worker’s way of feeling they were compensated for their efforts. When inflation rates stay low, employers may not be offering the same sort of worker raises, even when the worker per-forms well. When companies see the prices of their goods staying the same or even going lower, they may not be encouraged to raise the worker’s pay.
The federal government is concerned that workers will rebel as low inflation causes low pay raises as well. The government has good reason to worry.
It is likely that one of the targets will be the taxes we pay. When raises do not happen, the taxes we pay tend to stand out.
In some ways, with these lower inflation rates, the investments that are low risks are actually great performers. Annuities with a guaranteed rate of 4 or 5 percent are performing better than many other investments which have greater risk.
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