Inflation and interest: Should I save my money or invest it?

Fluctuating stock prices, inflation and an interest rate increase – what does the current situation mean for our money? Is it worth returning to the days of savings books, or does it make more sense to invest in the stock exchange? Here we explain to you what is happening and clarify the pros and cons of each option. 

Taking control of our personal finances is proving to be a real challenge at the moment. Almost everyone is currently affected by inflation – especially those with a low income. On top of that, a lot of people will soon have to dip into their savings to make ends meet due to the energy crisis and the share prices are also currently taking a nosedive.

If, despite all of this, you still have the opportunity to save or invest money, sooner or later you’re bound to ask yourself: what’s the best strategy for my finances? Carry on investing despite the current uncertain rates, or go back to squirreling away your money into a savings account, which turned out to be the worst possible option for cash savings in recent years?

That’s a good question, especially since the European Central Bank (ECB) announced its rate hikes this July, which is also affecting savers and the stock market. Why did they do that and what does it mean for you and your money? Don’t worry, it’s not as complicated as it may sound.

What effect is the interest rate increase having on our money?

In July, the ECB announced that it would be raising its key interest rates. And with it the rates at which banks can lend money from the ECB. This is the first interest rate increase for over a decade. With the hike by half a percentage point, we are seeing an end to the more relaxed monetary policy of recent years, which, for example, resulted in very cheap loans. These are now a thing of the past, which isn’t only posing a challenge for companies, but also for private individuals. At the same time, the days of zero interest are over, which is actually good news because it means that we can once again earn interest on the money we have saved. 

But is this step being taken now? The reason behind this decision by the ECB is to curb the high inflation and stop it becoming too much of a burden.

Key interest rate and inflation: How should the interest rate hike curb inflation?

In July 2022, inflation was over 8%, a record figure that we haven’t seen in a long time. The aim is to achieve an inflation rate of around 2% in order to ensure stable economic growth. To get back to that level, the ECB had to take action. And they have done just that: by increasing the interest rate.

After all, the key interest rate influences the price that banks have to pay the ECB to lend money. So if the key interest rate increases, things will get more expensive for the banks. They then pass the higher prices on to their customers, whose loans, as we mentioned before, will now also become more expensive. And it means that companies will no longer be able to take out loans at such cheap rates as they could previously. 

Money will therefore become tighter because it isn’t as readily available as it was before. So it will be worth more and people will start buying less as demand dwindles, which, in turn, should slow down inflation over time.

Time to return to our savings accounts? What the interest rate increase means for savers

So are we heading back to happier days for savers and the good old savings book? After all, it’s finally possible to earn interest once again! In a nutshell: yes and no! Yes, you are no longer getting zero interest on the money that is sitting in your savings accounts or instant access accounts, for example. But the interest is still far too low for it to be able to balance out inflation. That means that the value of your money in those accounts is still decreasing. 

What can benefit keen savers, however, is the fact that many banks and banking providers are doing away with the custody fee that was often charged for large amounts of money sitting idly in current accounts. Which is something, at least.

To invest or not to invest? How the interest rate is impacting the stock market

When the interest rate increases, people tend to buy less and also put off larger purchases. That can also affect the stock market as the companies on it are making less of a profit. This can cause stock prices to tumble. 

But the interest rate increase is affecting different investment products differently. Not all of them are negatively impacted. Another positive factor is that low stock market prices make it possible to purchase shares cheaply – so you get more for your money.

That means, that if you are able to make long-term investments now, you could profit from higher returns over time. And you will be able to do more to bring inflation down than you would with the money you have saved in a regular account. 

Saving or investing? What’s right for your money right now?

To answer this question, it’s important to clarify your own needs and options. If you still have debts or barely any savings, you should first pay off what you owe and then build up an emergency fund if you can. After all, these are uncertain financial times, so we need to prepare ourselves accordingly. For all those who already have savings: it makes sense to park a certain amount in your current account (or sub-account, instant access account or savings account), which you can easily access. It’s up to you how high that amount is. As a rule of thumb, three net monthly salaries are usually recommended.

Any money you have beyond that can still be invested, especially if you have a long-term investment strategy. So don’t let yourself be ruffled by changing stock market prices. 

If you can sit out the falling prices, you might even benefit in the long term. Because more shares for less money can also mean more of a return further down the line, i.e., when the prices increase again over a longer period. You should also try to diversify your risk with different investment products. Don’t just hedge all your bets on one share to ensure that you can invest and not just speculate.

As is always the case: you should only ever invest money that you don’t need on a daily basis. But if you are able to invest, you can actually use low stock market prices strategically to your advantage in the long term: as possible return boosters!

Remember: there is no perfect time to start investing as no one can predict future share prices. What’s more important is the time that you can stay invested. So don’t delay – just get started once you have found the right product for you!

Please note: This text does not contain any investment advice, purchase recommendations or sale recommendations.

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