## Unveiling the Hidden Benefits of Inflation: Who Can Profit from It?

When it comes to inflation, many people's first reaction is asset depreciation and rising living costs. But did you know? Moderate inflation actually has unexpected benefits for the economy and certain groups of people. This article will take you deep into the dual nature of inflation and how to find investment opportunities in an inflationary environment.

## Looking at Taiwan's Phenomenon to Understand Inflation

In recent years, rising global prices have become the norm. Taking Taiwan as an example, persistent price hikes forced the Taiwan Central Bank to raise interest rates five times within two years. What is the fundamental reason behind this phenomenon? Understanding the essence of inflation is key to accurately grasping investment directions.

## What Exactly Is Inflation?

Inflation (abbreviated as "inflation") refers to the general and sustained rise in prices of goods and services over a certain period, accompanied by a decline in the purchasing power of money—simply put, money becomes less valuable.

The core indicator used to measure inflation is the Consumer Price Index (CPI), which reflects the average expenditure change required for consumers to purchase a basket of representative goods and services. When CPI continues to rise, it indicates that inflation is intensifying.

## How Does Inflation Occur? An In-Depth Analysis of Four Main Drivers

When the money circulating in an economy exceeds the actual supply of goods, it triggers a situation of "too much money chasing too few goods." The main factors leading to inflation are:

**Demand Pull: The Chain Reaction Triggered by Consumer Enthusiasm**

When market demand for goods rises, producers will increase output and raise prices, thereby increasing profits. Profits lead to further investment and consumption, forming a positive cycle of demand—production—profits. Although this demand-driven inflation pushes prices up, it also boosts GDP growth. Therefore, most governments tend to stimulate demand.

**Cost Push: The Transmission of Rising Raw Material Prices**

Cost-push inflation caused by rising raw material costs is quite different. For example, during the Russia-Ukraine conflict in 2022, Europe was unable to import Russian crude oil and natural gas, causing energy prices to surge tenfold. As a result, the CPI in the Eurozone increased by over 10% annually, reaching a historic high. This type of inflation can lead to decreased social output and GDP contraction, which is the least desirable scenario for governments.

**Excessive Money Supply: The Consequences of Unrestrained Money Printing**

Over-expansion of the money supply is a direct driver of inflation. Historically, hyperinflation often stems from irrational government money printing. In 1950s Taiwan, to cope with post-war deficits, the Taiwan Bank issued large amounts of currency, eventually causing 8 million legal tender notes to be worth only 1 US dollar, leading to runaway prices.

**Self-Reinforcing Expectations: The Psychological Amplification**

When the public expects prices to continue rising, their consumption desire increases, demanding higher wages, and merchants raise prices accordingly, creating a self-fulfilling inflation expectation. Once this expectation forms, it is very difficult to reverse. Therefore, central banks worldwide strive to stabilize inflation expectations and send signals to the market that "we have the ability to control inflation."

## Hidden Benefits of Inflation: Why Moderate Inflation Is Good for the Economy?

Many people fear "inflation," but from an economic perspective, **moderate inflation is actually a necessary condition for stimulating economic vitality**.

When people expect prices to be higher in the future, their desire to buy increases, boosting demand and prompting businesses to invest more, thereby expanding production and maintaining economic growth. For example, in early 2000s China, the annual inflation rate rose from 0% to 5%, and GDP growth also jumped from 8% to over 10% during the same period.

**In contrast, negative inflation (deflation) is a nightmare.** Japan experienced deflation after the burst of its economic bubble in the 1990s, with stagnant prices leading people to prefer saving over spending, resulting in negative GDP growth. Japan then entered the "Lost Thirty Years."

Because of this, major central banks worldwide prioritize maintaining moderate inflation. Developed countries like the US, Europe, the UK, Japan, Canada, and Australia set their target inflation rates at 2%-3%, while most developing countries aim for 2%-5%.

## Wealth Effects of Inflation on Specific Groups

Not only is inflation beneficial for the macroeconomy, but it also significantly benefits **debtors**. Although inflation devalues cash holdings, for borrowers, the actual amount of debt they need to repay effectively "shrinks."

For example, if you took out a loan of 1 million to buy a house 20 years ago at a 3% inflation rate, that 1 million has depreciated to about 550,000 today. You essentially only need to repay about half of the original debt value. **Therefore, during high inflation periods, those who leverage debt to acquire assets—such as real estate, stocks, gold—stand to gain the most.**

## How Do Interest Rate Hikes Fight Inflation?

When inflation remains high, central banks typically respond by raising interest rates. **Higher interest rates mean increased borrowing costs and reduced market liquidity, which helps ease inflationary pressures.**

For example, if the loan interest rate rises from 1% to 5%, borrowing 1 million costs annual interest from 10,000 to 50,000. This discourages borrowing and encourages saving, leading to decreased demand, which causes prices to fall and overall price levels to decline.

However, raising interest rates comes with costs—businesses face higher financing costs, leading to reduced hiring, rising unemployment, slowing economic growth, and even recession. This is the dilemma policymakers face.

In 2022, the US vividly exemplified this dilemma. When the CPI year-over-year increase reached 9.1% in June (a 40-year high), the Federal Reserve launched an aggressive rate hike cycle starting in March, raising rates seven times in total by 425 basis points, pushing the federal funds rate from 0.25% to 4.5%. The result was a sharp decline in the stock market, with the S&P 500 falling 19% for the year, and the tech-heavy NASDAQ dropping 33%.

## Stock Market Divergence During High Inflation: Opportunities and Challenges

**Overall, low inflation benefits the stock market, while high inflation exerts pressure on stocks.** In low inflation environments, hot money flows into stocks, pushing prices higher; but high inflation prompts tightening policies, leading to stock declines.

However, this does not mean profits cannot be made in stocks during high inflation. Historical data shows that energy stocks tend to perform well during high inflation periods. In 2022, the US energy sector returned over 60%, with Occidental Petroleum up 111% and ExxonMobil up 74%. This is because high inflation often coincides with energy shortages, driving up oil and gas prices and benefiting energy companies.

## Asset Allocation Strategies in an Inflationary Environment

Facing inflation shocks, **scientific asset allocation is key to both defense and profit.** Investors should build diversified portfolios, combining different asset classes to spread risk.

**Main assets that perform well during inflation:**

- **Real Estate:** During inflation, increased money flow into property markets pushes up property prices and rental yields.
- **Precious Metals (Gold, Silver):** Gold tends to perform better as real interest rates (nominal interest rate minus inflation rate) decrease or turn negative.
- **Stocks:** Short-term performance varies, but long-term returns generally outpace inflation.
- **US Dollar and Strong Currencies:** During inflation, central banks adopt hawkish rate hikes, boosting the value of the US dollar and other reserve currencies.

A feasible allocation plan is to divide funds into three parts: 33% in stocks for growth potential, 33% in gold for preservation, and 33% in US dollars for hedging inflation. This combination allows investors to benefit from stock growth, leverage gold's defensive properties, and hedge with the dollar, reducing overall volatility.

The key after choosing assets is to find convenient investment channels. Traditional methods require opening accounts with different brokers for stocks, futures, etc., which can be cumbersome. Modern investors can consider diversified trading platforms that enable one-stop investment in stocks, precious metals, forex, and other products.

## Summary: Rationally Viewing the Dual Nature of Inflation

Inflation is essentially a continuous rise in prices, but its effects are differentiated. Moderate inflation can stimulate demand and promote economic growth; excessive inflation, however, requires tightening measures like interest rate hikes, with side effects including rising unemployment and slowing growth.

From a personal wealth perspective, certain groups—debt holders, real estate investors, energy stockholders—can actually profit from inflation. The right approach for investors is to acknowledge the reality of inflation, diversify investments, and adopt rational asset allocation to mitigate risks and seize opportunities. Find your own investment opportunities amid the challenges of inflation.