The ‘I’ word: What is inflation anyway?

Wednesday, 25 January 2023

The overall inflation rate gives a good measure of the bigger picture, but it’s just an average. Video first published August 30 2022.

Inflation: It’s a word being bandied about all over the place today after Stats NZ reported annual inflation was unchanged at 7.2%.

But what is it, and what does it mean for the average New Zealander?

What is inflation anyway?

Inflation measures how the cost of a set of goods and services increases over a certain period, usually a year.

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How is it measured?

Most commonly by the consumer price index (CPI), which tracks the price of a basket of goods and services most New Zealanders will buy in their day-to-day spending.

Stats NZ makes about 100,000 price checks every three months to pull together its quarterly CPI, visiting shops and websites to see how prices have changed.

Why is it bad?

Rising inflation hits purchasing power. Annual inflation of 7.2% means an item that cost $1 a year ago would cost $1.07 today, while a product priced at $100 this time last year would be $107.23 today.

Individually, those may not seem like large increases. But adding 7.2% to every purchase quickly pushes the overall cost of living up.

Who's likely to feel it most?

Those on lower and fixed incomes, like beneficiaries and superannuitants. When there is less disposable income, higher costs for essential items like food, housing and power, mean even less left over at the end of the month.

On top of that, lower-income households generally have lower savings and fewer investments than those on higher incomes, giving them less of a buffer against rising costs.

How do we slow it down?

By spending less. Unfortunately, many of us have a hard time doing that when costs have been rising and there’s not much sign of that changing.

It’s human nature to want to get the best deal. So, if you expect something you want to cost 7% more next year, you’ll probably want to pre-empt that price rise and buy it now.

But when consumers do that en masse, it puts the squeeze on supplies, causing sellers to raise prices, which then increases inflation. It’s a vicious cycle.

This is where the Reserve Bank comes in. Its job is to keep inflation under control by adjusting interest rates to dial up or dial down spending and saving signals.