Inflation means this: what you can purchase today for a dollar, will most likely cost two dollars in the future, dependent upon the rate of inflation. Over time, the value of money declines. This situation has not changed since our government decided to manage the circulation of currency through one bank. What this means to the consumer is that, as time passes, it will take more money to support oneself at a continuous level.
While you’re working, you probably haven’t noticed the influence of inflation. As inflation rises, most likely, your paycheck rises as well. But once you’re on a fixed income, inflation can have a big impact on your style of living. If you don’t take inflation into account when you ask yourself “How much do I need to save for retirement?” you may be in for a big shock in the future.
Retirement planners are known to use 3% rate of inflation in their retirement calculations. They base that rate on the rate of inflation of the past 20 to 30 years. But since today’s economy is in such a state of flux, it would probably be smarter to go back a few more years and to look at the 1970s, a time when prices doubled in ten years.
Inflation is historically very hard to predict. Nobody can agree on inflation. And the past is not an indicator of future trends in inflation. Just because inflation has held steady at about 3% in the past does not mean that it will continue to do so in the future. Because of this, it’s hard to know exactly how inflation could affect your retirement savings.
Recent bank and financial institution bailouts and questions about Social Security, on top of all of the Baby Boomers rushing towards retirement, are all playing big roles in the country’s economic outlook, including inflation rates.
How Do I Figure Out If I Have Enough Money Saved to Retire?
It’s smart to find a financial retirement calculator online and plug in a bunch of different inflation estimates. This will give you a few possibilities. Beware of using the lowest possible inflation rates in your planning. This may cause you to underestimate how much money you’ll need to retire.
If you use a low 3% rate, the cost of living will double in 24 years. In other words, you’ll need two dollars to buy tomorrow what costs you one dollar today. Should the inflation rate be more like 5% or 6%, and you plan on 3%, you may find yourself with some big financial problems in a few years.
Using a higher inflation rate when you make your retirement estimates may leave you with more savings than you’ll actually need. This is not such a bad thing. First of all, you’ll be extremely comfortable in retirement. Secondly, your children will be happy when you leave them a big chunk of money in your will.
Consider Inflation When Making Investments
To manage inflation when planning for retirement, many people choose to make investments in assets that usually grow, diminishing the effects of inflation. Typically, many people invested in growth stocks until their time of retirement and then switched to bonds which offered lower returns but were more stable than growth stocks. The declines in the market in 2000 and 2008 have made the success of this strategy difficult to predict.
Another way to protect your money from inflation is to buy rental real estate and then to use the rental income or the appreciation value of the real estate to offset inflation. Some people buy Treasury Inflation Protection Securities, or TIPS, which are specialized securities which are meant to adjust as inflation changes. Before deciding upon retirement, spend some quality time thinking about what you can do to protect your life savings from inflation.
Inflation Causes the Value of Your Money to Diminish
It’s unfortunate but true, that if you’re not careful in your planning for retirement, inflation can really lower the value of your retirement savings, and therefore make a difference as to when you can afford to retire. Should you decide that 65 if your optimum retirement age, then you may live another 30 or 40 years, giving you the time to watch your buying power reduced by 50% once or twice. This is something to think about.
Obviously, nobody can see into the future, but chances are good that inflation is going to take its share of your retirement savings. This could seriously affect your financial security. Be sure to make inflation one of the factors in your retirement planning and guarantee not only yourself, but your family, a good financial future.
About the Author:
Having started his very first savings account at 13, Jason Munroe loves to learn about money and share his knowledge by speaking about the building of wealth and retirement planning issues. You’ll find Jason traveling or exploring the Internet in Nevada where he lives with his wife and their two grown children.