What Is Inflation and How Can You Protect Your Finances from It? 

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If you’ve turned on the news at any point in the past few years, you’ve probably seen a headline referring to inflation.

As of October 2025, the U.S. inflation rate is 3%, impacting everything from your weekly groceries to buying a home or pursuing grad school.

While you can't control the country's inflation rate, there are ways you can protect yourself and your finances from inflation.

What Is Inflation? 

Inflation is the rate of increase in the price of goods and services over time. We typically measure it year-by-year, so 10% means that something that cost $100 last year costs $110 this year. 

Some economists have a slightly different definition for inflation, calling it the gradual loss in a currency’s purchasing power over time.

But both definitions are essentially saying the same thing: As prices rise, the value of a dollar (or dinar, or peso) lowers. 

How Do We Measure Inflation? 

The most common measuring stick for inflation is the Consumer Price Index (CPI). The U.S. Bureau of Labor Statistics (BLS) calculates the CPI by collecting the prices of goods and services from 23,000 retail establishments across 75 urban centers, representing over 90% of the U.S. population.

And since the cost of housing is a major factor in the overall calculation of inflation, the BLS also collects rent data from about 50,000 landlords or tenants. 

Once they’ve got all this data, the BLS calculates the average overall price of different goods and services — everything from eggs to furniture, women’s dresses, used cars, and airline fares. That way, they can measure the inflation of that specific product or service over time as well. 

Then, to calculate the overall CPI, the BLS gives weight to the categories of goods and services based on their importance to the average consumer. For example, “Cakes, cupcakes, and cookies” accounts for just 0.207% while “Shelter” accounts for a suitably heftier 34.413%. 

Then, the BLS puts all of that data into a complex, proprietary algorithm, cranks the handle, and out comes the CPI. 

At the time of this writing, the current CPI for “All Items” is 2.9%, meaning on average, consumer goods and services are roughly 2.9% more expensive than they were this time last year. 

You might also hear the term Producer Price Index (PPI) to describe inflation. PPI is a measure of inflation from the seller’s point of view, taking into account production costs. 

What Causes Inflation? 

You’ve probably heard that inflation is caused by the government printing too much money. That’s certainly one of the causes (and we’ll look at some historical examples of “hyperinflation” below), but in most cases, governments don’t cause inflation — we do!

Here are the four main causes of inflation and how they work: 

1. Demand-pull inflation

Demand-pull inflation occurs when there’s an increase of cash (or the ability to borrow cash) in the economy, and as a result, people start spending more than they usually would. They buy the new iPhone, the nicer car they’ve always wanted, or simply go out to eat more often. 

As a result of this surge in spending, companies realize they can raise the price of their existing supply without suffering a loss in demand.

For example, during the pandemic, used car dealers realized that there were probably 10, sometimes 100 interested buyers for every one car on the lot. So if they raised the price from $40,000 to $45,000, someone would probably still buy it (and more often than not, they did). 

So demand-pull inflation occurs when there’s “too much cash chasing too few goods,” as many economists say. All four macroeconomic buyers — households, businesses, governments, and foreign entities — can drive demand-pull inflation, not solely attributable to us.

2. Cost-push inflation

Cost-push inflation, by contrast, is when demand stays the same but the supply becomes more expensive to produce. The seller, therefore, passes the added production costs down to the consumer in the form of a raised price tag. 

To illustrate, let’s look at how the war in Ukraine affected European gas prices. In 2019, the European Union purchased more than half its oil from Russia alone. And when the EU imposed sanctions, it meant the non–Russian oil suppliers had to work double-time (quite literally) to meet the same demand.

They had to buy more ships, hire more workers, and build more refineries, and eventually, those added costs got passed down to the average European commuter who paid 90% more at the pump. 

3. Increased money supply

The third source of inflation occurs when there’s a large influx of money into the economy. This could be the government printing money, or a foreign entity buying real estate with a foreign currency converted to USD.

Either way, when too much new cash arrives but the supply doesn’t change, the demand-pull effect occurs. This is pretty much what happened when the U.S. sent $1 trillion in cash to Americans during the pandemic — it obviously helped a lot of people, but it also caused supply shortages, which led to a spike in demand-pull.

But things could definitely be worse than our post-pandemic peak of 9.1%. Throughout the 1990s and 2000s, the government of Zimbabwe printed untold sums of cash to fund the military and buy food from other countries.

As a result, the rate of inflation went from 6% in 1996 to 89.7 sextillion (!!) percent in 2009, stopped only by the adoption of the U.S. dollar. 

4. Inflation expectations

Finally, inflation expectations arise when there's a widespread anticipation of high future prices. This leads to preemptive demands for higher wages, increased pricing, and advanced purchases of expensive items.

A self-fulfilling prophecy ensues: demand-pull from increased demand, cost-push from higher wage demands, leading to a surge.

This is exactly what happened during the “Great Inflation” lasting from 1965 to 1982. Factors like the Vietnam War, the sudden death of the Gold Standard, and existing, creeping inflation caused the average American to lose faith that the government could control inflation.

So, they demanded higher wages, which made prices rise, which led to higher wage demands and so forth until inflation peaked at nearly 15% in 1980. 

It wasn’t until the Federal Reserve Bank under Jimmy Carter raised interest rates to a staggering 19% that the U.S. economy froze and inflation tumbled to a palatable 5%. 

How Is Inflation “Controlled”? 

The Federal Reserve System of the United States, or the Fed for short, is what’s known as a central bank. A central bank is a government-run bank that essentially governs all the other banks. Every country has one, since it’s critical to controlling the economy.  

The Fed permits banks, such as Chase and Wells Fargo, to keep a set amount in interest-bearing reserves. Think of them like savings accounts for banks. 

Now, the Fed controls the interest rates of those reserves. So when the Fed raises interest rates, it’s encouraging banks to leave more money in reserves. When it lowers interest rates, it’s encouraging banks to take their cash out and lend it around. 

Here’s how that affects inflation: 

Let’s say it’s 2021 and the Fed has the interest rate at 0.15%. Banks want to lend reserves to generate interest, given the lack of profit on their current reserves.

The next day, you come knocking and ask for a mortgage. The bank says, “Heck yes! Perfect timing — we’ll give you one for 3.15%.” You’re happy, the bank is happy, and people come flooding in for cheap mortgages. 

Now let’s say it’s 2025. The interest rate on reserves is now 4.25%, so banks are happy to keep their money where it is.

But you come knocking for a mortgage nonetheless. 

“So… Here's the thing,” the bank says. “We can definitely write you a mortgage. But since we’re making 4% on our reserves… we’re going to have to charge you 7% to make it worth our while.” 

Banks' reduced lending prompts consumer thriftiness, with everyone cutting back on non-essentials.

This slows down demand-pull inflation. 

Faced with reduced demand, businesses hesitate to raise prices, irrespective of production costs, affecting the overall pricing dynamics. They may even lower prices before their existing supply spoils. 

This slows down cost-push inflation. 

To recap: 

1. The Fed raises interest rates.
2. Banks are encouraged to save more and lend less.
3. Banks charge higher interest rates to make lending worth their while.
4. Higher interest rates encourage everyone to spend less and save more.
5. Slower demand leads to price stability and lower prices.

This is a simplified overview; numerous factors, explored in extensive economics textbooks, contribute to understanding inflation and the Fed's role.

How Can You (Personally) Deal with Inflation? 

The harsh reality of rising prices is that the purchasing power of your hard-earned cash continuously diminishes.

However, with strategic financial management, you can counteract this decline and even thrive.

Keep investing (or get started)

Inflation is one of the biggest reasons why you should prioritize investing over simply saving. The average stock market return over the past 30 years has been 10% annually — much higher than the current inflation rate.

That's not to say you're guaranteed a 10% return every year. Markets fluctuate and some years may be better or worse. But if you stick with it for the long term, making consistent investments each month, you're more likely to outpace inflation than if you left your money simply sitting in a traditional savings account.

If you're risk-averse and worried about the markets, you can also protect your capital from inflation by buying Series I Savings Bonds from the U.S. Treasury. I bonds have an interest rate that resets every six months to match the current rate of inflation.

It's easy to get started with investing apps like Webull. Even if you don't have much money to invest right now, Webull lets you buy fractional shares starting at jut $1 and even trade fractional bonds starting at $100.

READ MORE: How to Start Investing When You Don’t Have Much Money

Not sure where to start? Join Erika's Free 5-Day Investing Challenge and learn how to make your first $10,000 by investing just a few dollars a day.

Open a high-yield savings account

While investing is better than simply saving, you still need to save some money — you don't want all your cash tied up in the markets.

However, it’s best not to keep too much of that cash in your checking account or even a traditional savings account because it’s just going to lose purchasing power there due to inflation.

Instead, toss as much as you can into a high-yield savings account where it’s still accessible, but is generating more interest to combat inflation.

For example, the SoFi Checking and Savings Account is currently offering up to 4.30% APY, which can help you combat the current inflation rate of 2.9%. (Terms apply.)

Get the right rewards credit card

Sure, the Fed targets a 2% inflation rate each year — but you can earn 3% or even 5% back on most purchases if you use the right rewards credit card.

For example, the Blue Cash Preferred® Card from American Express earns 6% cashback on purchases at U.S. supermarkets (up to $6,000 per year, then 1%) and 3% cashback on U.S. gas station and transit purchases. This can help to ease some of the pain from inflated grocery and gas prices.

Or for no annual fee, the Capital One Savor Cash Rewards Credit Card earns 3% cashback on dining, entertainment, select streaming subscriptions, and grocery store purchases (excluding superstores).

With any credit card, just be sure to pay it off in full every month. Otherwise, you'll owe more in interest charges than you're saving through cashback.

Pay off high-interest debt

High inflation usually means high interest rates — so if you have any variable-rate debts, those are going to get even more expensive.

Consider the “avalanche method,” which involves paying off your debts in order of highest-to-lowest interest rate.

RELATED: Why It’s Hard to Get Out of Debt With Only Minimum Payments

Connect with a financial planner

With the CPI constantly fluctuating, you might be wondering: When is the right time to buy a house or car or to refinance my student loans?

This is a great question for a financial planner who understands both the market and your current financial situation. Ask for a referral from friends, family, or social media. 

FAQs

TL;DR: Understanding Inflation

Inflation is an inevitable byproduct of a functioning economy. While you can't avoid inflation, you can plan for it and mitigate its impact by strategic spending and saving, even if the Cinnamon Toast Crunch prices rise.

Keep an eye on your budget, pay down your debts (especially high-interest ones), make your savings work harder in high-yield accounts, and invest with the long game in mind.

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Disclosure: Opinions expressed here are the author's alone, not those of any bank, credit card issuer, hotel, airline, or other entity. This content has not been reviewed, approved or otherwise endorsed by any of the entities included within the post.