How inflation is making us poorer

Posted by Gavin Chau

Last week, an OECD report showed that Australian households received the largest decline in real per capita household incomes of any advanced economy over the last 12 months. These are around 2019 levels, which are effectively the same as they were in 2010. So, despite the total GDP growing slightly due to the huge migration intake, the individual Australian is worse off. You can call it whatever you want, but we are in a recession when measured per capita.

Another way to look at it is since COVID began, the cost of living has increased by 15.8% based on the official monthly CPI number. This means you’re 15.8% worse off if you didn’t get a 15.8% pay rise over those three years. That’s the most conservative estimate if you were to believe the official narrative that the CPI number is the real inflation rate.

We must remember that the official CPI number doesn’t include land prices, the price of art, shares, cryptocurrencies, precious metals, or any asset that a wealthy person would want to own, which is to say that when it comes to the cost of living the government assumes that you don’t want to be wealthy.

If we were to consider these things, the real inflation rate would be much closer to the rate of monetary expansion. That is something like 10.5% per annum since records began. That is to say, if you were to keep your life savings in cash, it would be like trying to hold onto a giant ice cube that’s melting at around 10.5% per annum. Inflation or monetary debasement is like an invisible tax that the central banks use to fund government spending.

It’s probably easier to think about it as a form of counterfeiting. If someone had a counterfeiting machine to create endless amounts of money, they would become stupendously wealthy. But given a long enough timeline as all this new money flowed into the economy, it would eventually reduce the relative scarcity and value of each dollar that was already out there being held by everyone else. The result would be that all real-world goods would require more dollars to purchase, and people without access to the money printer would be poorer despite having the same number of dollars in their bank account… in a nutshell, this is how inflation works. The people closest to the money printer get wealthier, and everyone else gets poorer. The people closest to the money printer are big corporations, the most credit-worthy and high-net-worth individuals.

Considering the long-term returns in the share market at 9.8% per annum is still below the rate of monetary expansion, it highlights how difficult it is to beat the likely real inflation rate. It is enormously hard to maintain, let alone increase your purchasing power over time. The effect of this broken monetary system is far-reaching. It has a way of finding its way into nearly every aspect of our lives, from our superannuation being insufficient to support our retirement to widening wealth gaps between the rich and the poor to forcing us to focus an inordinate amount of time on making money (once to make it and a second time to keep it). It’s likely even reflected in societal trends around delayed marriages and lower birth rates.

The good news is that leverage has been the simple hack to beat the real inflation rate. If you look at an average house in Australia with a 7% growth rate and a 5% yield using a 90% deposit. Your internal rate of return ends up being around 20%. This matches the returns of the best hedge funds in the world, run by the smartest people wearing the shiniest suits, with Ivy League educations and the best training and models in the world. Hard assets that are resistant to being inflated away remain one of the only true hedges against inflation and monetary debasement.

The only realistic drawback is at some point; you run out of the ability to use leverage as your ability to service the loans declines. After this, you’re forced to push out further into the risk curve to make those kinds of returns. But for most ordinary Australians, the easiest and most effective starting point would be to build up a portfolio of good properties.

Posted by Gavin Chau, on 14th Nov 2023