Inflation and your household budget

Inflation tells us how much prices have changed year-over-year. It’s noticeable in the cost of everyday things, for example the price of a candy bar today compared to 20 years ago. Over time, increases in inflation tend to be offset by increases in wages, since inflation and wages both tend to increase gradually.

However, a more sudden increase in inflation can cause financial stress, due to sharper increases in the cost of living. If your paycheque suddenly doesn’t stretch as far, that means it’s a good time to take a look at your personal finances.

Try this Inflation Calculator (Bank of CanadaBank of Canada The central bank that sets Canada’s money policies. These policies help keep the Canadian dollar stable. They also affect our economy and our money supply. The goal of the Bank of Canada is to keep currency and the financial system stable. They are the sole authority to issue banknotes – bills.+ read full definition) to see how inflation has changed the cost of goods and services over time.

Adjusting for increases in cost of living

Generally, inflation tells us how much more it will cost to purchase goods and services. Many of these are directly related to the cost of living, such as food. But many goods and services are more related to discretionary spending, such as household furnishings or alcohol. This means that inflation doesn’t affect all spending areas equally.

As you review your budgetBudget A monthly or yearly estimated plan for spending and saving. You work it out based on your income and expenses.+ read full definition, it’s always important to prioritize your essential living expenses: groceries, transportation and housing. When inflation affects two or three of these simultaneously, it’s even more crucial to make sure you can accommodate them in your budget.

In Canada, the impact of inflation on the cost of living is measured by the Consumer Price Index or CPI. In January 2022, Canadian inflation rose to 5.1% on a year-over-year basis according to Statistics Canada.

6 tips for tackling the costs of inflation

  1. Track your expenses. When you track your expenses you gain real information about how much you are spending and where. Because inflation will not affect all areas equally, it’s helpful to know what the effects are on your household spending.
  2. Plan your monthly budget. Creating a balanced budget can help you manage your income and expenses to meet your goals. If you already have a budget, you may need to revise it to accountAccount An agreement you make with a financial institution to handle your money. You can set up an account for depositing and withdrawing, earning interest, borrowing, investing, etc.+ read full definition for increased costs to food, transportation, or other important items. Once you’ve accounted for the essential expenses, then you can decide how much to spend elsewhere. Confirming your needs versus wants can help.
  3. Review your investmentInvestment An item of value you buy to get income or to grow in value.+ read full definition priorities. If your budget is stretched thinner than usual, you may not be able to make all the investment contributions you would have previously. If you can keep up contributions to your long-termTerm The period of time that a contract covers. Also, the period of time that an investment pays a set rate of interest.+ read full definition goals, this is better than stopping altogether. You may also reconsider your asset mixAsset mix The percentage distribution of assets in a portfolio among the three major asset classes: cash and cash equivalents, fixed income and equities.+ read full definition. Some investments (such as equitiesEquities Another word for investments in the stock market.+ read full definition and real estateEstate The total sum of money and property you leave behind when you die.+ read full definition), typically provide better protection against inflation than others (such as GICs or bonds).
  4. Confirm your short-term goals in order of priority. If you are putting aside money for a large purchase or an emergency fund, you may be able to continue your savings contributions at different amounts. Having a savings buffer will help you to manage short-term uncertainty.
  5. Review your long-term financial goals, including retirement. Inflation can affect the real worth of your retirement savings in the long term, so this is an opportunity to review your investment strategy. How much you need to save for retirement may have changed. Consider all sources of retirement income including employment pensionPension A steady income you get after you retire. Some pensions pay you a fixed amount for life. Others save up money for you while you are working. You use that money to create income after you retire.+ read full definition and CPP benefits, and whether any sources are indexed to inflation.
  6. Talk to your financial advisor. If you are looking for support to make new investment decisions, re-balance your portfolioPortfolio All the different investments that an individual or organization holds. May include stocks, bonds and mutual funds.+ read full definition, or understand how changes in the market may affect your goals, these are all good reasons to work with an advisor.

There are many ways to make room for increased expenses. The best approach is to review your financial priorities and cover essential needs first. From there, you can decide which variable expenses and investment contributions are most important.

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