It might seem counterproductive to invest in new real estate transactions in a time of high inflation. Likewise, low inflation tends to spur new investments. As it turns out, the effect of inflation on real estate investing is more the result of perception rather than hard economics. How people perceive inflation guides the decisions they make as a result of it.
So how does inflation affect real estate investing? To answer that, we have to look at four types of inflation and their effect on investor perceptions. Actium Partners, one of the top private equity firms in Utah, says that if you invest in real estate, your perceptions probably influence everything from hard money lending to whether you decide to flip or rent.
1. Demand-Pull Inflation
We will begin with demand-pull inflation, a form of inflation that occurs when demand outstrips supply. For example, when high demand for a given product outpaces the ability of manufacturers to produce said product, its price goes up. Demand-pull inflation is the epitome of supply-side economics even though the concept is rooted in the Keynesian model.
In a real estate setting, demand-pull inflation tends to cause investors to flip and sell. High demand outstripping supply translates into higher profits more quickly. Hard money becomes the catalyst.
2. Cost-Push Inflation
The other side of the demand-pull coin is the concept of cost-push inflation. This type of inflation results when the costs of producing a good or delivering a service increase, thereby increasing the eventual retail price. If it costs you more to build a car, you are going to pass on the increased costs to car buyers. It is that simple.
Cost-push inflation tends to invite investors to rent properties rather than selling them. Why? Because they can pass on increased costs to tenants for as long as it takes for property values to increase sufficiently enough to sell.
3. Built-In Inflation
Built-in inflation is one of expectation. For example, the workforce may expect higher wages in order to keep up with a future cost-of-living increase. Employers meet those expectations but then pass the costs on to customers. This increases the overall cost of living which, in turn, increases expectations among workers. You have a never-ending cycle of one form of inflation driving the other.
This form of inflation does not tend to influence real estate investors as much as the other three. On the rare occasions it does, any such influence would be related to current rental values more than anything else. Where rental values are exceptionally high, there is motivation to rent rather than flip.
4. Monetary Inflation
The fourth kind inflation is monetary inflation. It takes its name from the influence exerted by the Federal Reserve in determining money supply. In this country, the Fed is solely responsible for determining how much money is in circulation at any given time. They use that responsibility to influence the economy on a day-to-day basis.
Monetary inflation exists because of the relationship between money supply and money value. When the Fed increases the money supply without an accompanying increase in GDP, purchasing power is lost. In other words, every dollar buys less because there is more money in circulation.
This sort of inflation has a very definite impact on real estate investors in that every dollar they spend influences the overall value of their portfolios. When monetary inflation is low, portfolio values remain stable. Instability arises when monetary inflation increases.
Inflation has a definite impact on real estate investing. It is all about perception. How investors perceive inflation often determines whether they hold and rent property or flip and sell it. Own It Detroit will help you with real estate investing especially if you’re interested in Detroit area.