A Bag of Cats

There was an article in the June Tybee Island Beachcomber that mentioned in passing the use of cats as currency on Tybee, and how it made everyone wealthy until inflation came along.  This may or may not have actually happened here, but something similar definitely did happen with pepper in China, and tulips in what was then the Dutch Republic, and paper money in Weimar Germany, Zimbabwe, present-day Venezuela and others.  So let’s let the proverbial (or possibly literal?) inflationary cat out of the bag and take a look at it.​

Broadly speaking, inflation is an increase in prices over time.  It’s also the number one cause of nostalgia and old-timey stories: Remember when gas was 70 cents a gallon...I used to be able to get a coffee and the newspaper for a quarter...When I was your age I had to walk 5 miles uphill both ways....(we’ll call that last one “landscape memory inflation”).  Technically speaking, it needs to be a sustained increase in prices, which is why the Dutch Tulip Mania referenced above is traditionally considered a bubble rather than a case of inflation, but it’s the same mechanism.

Inflation happens under one of two conditions: things get more expensive, or money gets less valuable.  Either way, the end result is the same. The things-getting-more-expensive inflation is generally easier to see - think luxury collectibles, college, healthcare, etc.  The money-gets-less-valuable is harder to see until it gets to an absurd point of hyperinflation and pictures of money in wheelbarrows. This second one is what would have happened to Tybee cats.  There just got to be too many of them, and they would hardly consent to going anywhere in a wheelbarrow together.

The Federal Reserve has an explicit mandate to “stabilize prices”, and that gets interpreted as an inflation rate of 2%.  That’s right - there is actual effort exerted to make prices go up across the board by 2% every year. Inflation is a great thing if you have a lot of debt - those fixed student loan payments or mortgage payments or whatever become increasingly worth less.  On the other hand, inflation is absolutely terrible for savers and retirees on a pension, since that fixed income buys progressively less and less.

Inflation is also the reason that a savings or checking account at your bank isn’t the best investment.  The inflation rate at the moment is right around 2%, probably slightly higher as you’re reading this (well done, Federal Reserve).  If you spend $50,000 this year on whatever you spend money on, you should expect to pay $51,000 for the same things next year. And in 10 years you’ll be spending $61,000 for those very same things; that’s 22% more than today just to maintain your lifestyle.  

So, you need your money to earn at least 2% to keep up with inflation.  If you don’t keep up with inflation, it’s kind of like being slowly robbed.  When was the last time you saw a bank account paying 2% interest? Not this decade.  Is our banking system actually a slow, government-sanctioned robbery of your hard-earned money?  That’s for you to decide.
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Bank accounts, or even under the mattress, can be a fine place for an emergency fund to cover the unexpected.  And you’ve seen it here in this very article that cash can play an important role in a portfolio! But it can’t be the entirety of your investment portfolio.  If your investment strategy is a savings account in a bank, you’re not even keeping up with inflation, much less getting your money to actually grow for you.