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Inflation Rate

In short

Rate at which prices rise — measured by CPI; too high hurts stocks and bonds

Inflation measures how fast prices are rising. At 2%, things cost 2% more each year — acceptable. At 8%, your money loses value fast, and the Fed raises rates to fight it, which usually hurts stocks.

Inflation (measured by CPI, PCE) erodes purchasing power. The Fed targets 2% inflation. High inflation forces rate hikes, which hurt valuations (higher discount rates). But moderate inflation is normal in a growing economy. Deflation (negative inflation) is more dangerous.

Formula

CPI Inflation = (CPI_current - CPI_prior year) ÷ CPI_prior year × 100

Thresholds

< 0
Deflation — extremely dangerous
0-2
Low inflation — accommodative policy likely
2-4
Normal range
4-7
Elevated — rate hikes likely
> 7
Very high — major tightening expected

Related concepts

  • Fed Funds Rate — The Fed funds rate is the interest rate banks charge each other overnight. When the Fed raises it, borrowing becomes more expensive everywhere — mortgages, car loans, business loans. Higher rates usually hurt stocks, especially growth stocks.
  • Yield Curve — Normally, long-term bonds yield more than short-term ones (upward sloping). When short-term yields exceed long-term (inverted curve), it's historically predicted every US recession in the past 50 years. Investors call this the most reliable recession indicator.
  • GDP Growth — GDP growth measures how much the economy grew (or shrank). Think of it as the economy's report card. Above 2-3% is healthy. Two consecutive negative quarters = recession. Recessions hurt stocks but eventually lead to recoveries.
  • Treasury Yield — Treasury yields are the interest rates the US government pays to borrow money. They're the foundation of all financial pricing. When 10-year yields rise, it hurts stocks (especially growth stocks) because bonds become a more attractive alternative.