What investments are best for maintaining purchasing power relative to inflation. Using the pencil as an example, how inflationary and deflationary forces work together over decades to determine the price of product.
In this episode you’ll learn:
- What were some reasons for the great inflation during the 1970s.
- How productivity increases and new technology contribute to deflationary pressures.
- How quality improvements factors into inflation calculations.
- How commodities, TIPs and stocks can help protect against inflation
Show Notes
The Pencil: A History of Design and Circumstance by Henry Petroski
Long-term Inflation Calculator
Inside One of America’s Last Pencil Factories – The New York Times
U.S. pencil business whittled to a nub by imports – Bloomberg News
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Episode Summary – How To Keep Up With Inflation
Businesses and individuals are asking questions such as “How can we protect our earnings and purchasing power? How do we invest smartly while keeping inflation in mind?” On this episode of Money for the Rest of Us, David Stein takes an in-depth look at inflation and the causes behind it by examining the issue through the lens of a case study on pencils. You don’t want to miss out on his thorough explanation, so be sure to listen to this episode.
Forces that contribute to inflation and deflation as viewed through a case study on pencils
The simple pencil is an extraordinary example of the inflationary and deflationary factors that influence nearly every aspect of consumerism. In 1844, U.S. made pencils sold for $0.75/dozen, or $6.25/dozen in today’s dollars, but pencil costs did not keep up with overall inflation rates. With the invention of pencil-making machines, the world soon saw a drastic increase in the number of pencils being produced, but consumers already had an “anchored price point” in their minds. Their understanding of what a pencil was valued at and what it should cost did not reflect the actual costs. Essentially, cost savings were not passed onto consumers.
Why great selling environments for pencil manufacturers didn’t last long
Even though the demand for pencils was drastically increasing in the early 20th century, manufacturers were quickly plagued with a number of issues: decreasing amounts of American red cedar wood, a large influx in foreign orders, and a variety of other capacity constraints. As the industry began to examine the possibility of using secondary wood sources and increasing the productivity power of machines, price points for pencils continued to shift.
Additional inflationary and deflationary factors that impacted pencil production
As the pencil industry began to move into the 21st century, there were many factors that greatly influenced its path. Deflationary pressures such as imports from low cost countries and quality and productivity improvements led to lower pencil prices. However inflationary factors such as rising raw material costs, capacity constraints due to increased demand, and higher wages also greatly impacted the industry.
Consumer behavior as it relates to inflation and investment suggestions to combat inflation rates
With the story of the pencil’s journey in mind, David shares his top suggestions for ways to invest to keep pace with inflation. Inflation not only affects hard facts and figures but influences the mindset of American consumers and businesses. Because there is no guarantee that current inflation rates will stay low, having inflation hedges in your portfolio can be helpful, including stocks, real estate, raw land and gold. Inflation indexed bonds such as treasury inflation protected securities (TIPS) are also good options even though they currently have low yields. Exchange traded funds that invest in commodities should ideally also keep up with inflation, but in the episode David explains some of the drawbacks to investing in commodity futures via ETFs.
Episode Chronology
[0:15] David introduces the topic for this episode, how to keep up with inflation[4:02] Forces that contribute to inflation and deflation viewed through a pencil case study
[13:58] How a quality improvement to pencils changed the mindset on cost, value, and inflation
[17:34] Why good times for pencil manufacturers didn’t last for long, due to capacity constraints and rising commodity prices
[20:10] How the pencil cost continued to decrease because of additional wood sources
[22:15] Why cheap imports continued to impact the industry
[23:31] Summary of the deflationary and inflationary pressures
[24:35] Consumer behavior as it relates to inflation
[28:16] How stocks can be an effective inflation hedge
Would you like to read more about inflation? Check out The Ultimate Guide to Understanding and Protecting Against Inflation.
Related Episodes
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94: How Money Is Created and Destroyed
162: Is Inflation A Good Thing?
272: Is Inflation Measured Wrong?
