Abstract: Based on a two-period model, we use data from China Family Panel Studies(CFPS) to study the impact of inflation on household portfolio and financial leverage. The study finds that inflation and inflation expectations would reduce household cash deposit but have no influence on risky assets. Due to the substitution effect caused by relative price changes, households have increased consumption of durable goods, and short-term inflation has a negative impact on housing investment. As housing debt is dominated by long-term debt, long-term inflation significantly increases household debt and financial leverage, which in turn increases property income. Our findings can be used as a microscopic mechanism for inflation welfare costs.

Key words: inflation, inflation expectation, portfolio choice, financial leverage