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Inflation May Be Low Now, But It's Still Important
by Burton G. Malkiel from A Random Walk Down Wall Street
Inflation in the United States and throughout most of the developed world fell to the 2 percent level in the late 1990s, and some analysts believe that relative price stability will continue indefinitely. They suggest that inflation is the exception rather than the rule and that historical periods of rapid technological progress and peacetime economies were periods of stable or even falling prices. It may well be that little or no inflation will occur during the first decades of the twenty-first century, but I believe investors should not dismiss the possibility that inflation will accelerate again at some time in the future. We cannot assume that the European economies will continue to have double-digit unemployment forever and that the deep recessions in Japan and many emerging markets will persist. Moreover, as our economies become increasingly service oriented, productivity improvements will be harder to come by. It still will take four musicians to play a string quartet and one surgeon to perform an appendectomy throughout the twenty-first century, and if musicians' and surgeons' salaries rise over time, so will the cost of concert tickets and appendectomies. Thus, it would be a mistake to think that upward pressure on prices is no longer a worry.
If inflation were to proceed at a 3 to 4 percent rate—a rate much lower than we had in the 1970s and early 1980s—the effect on our purchasing power would still be devastating. The following table shows what an average 4.8 percent inflation has done over the 1962-88 period. My morning newspaper has risen 1,100 percent. My afternoon Hershey bar has risen even more, and it's actually smaller than it was in 1962, when I was in graduate school. If inflation continued at the same rate, today's morning paper would cost more than one dollar by the year 2010. It is clear that if we are to cope with even a mild inflation, we must undertake investment strategies that maintain our real purchasing power; otherwise, we are doomed to an ever-increasing standard of living.
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