Inflation is a fact of life in every country of the world. Venezuela, an extreme example, has had a record annual rate of inflation of over 20% for the last five years. Thankfully the US, which happens to be the country I call home, averages an annual inflation rate of only 2-3%. What do these numbers really mean though? And going back to the title we have to ask the question, how does the rate of inflation affect our perception of money? Let’s look at 3 key ways inflation does this.
1. The Rate of Inflation is in Continuous Motion
The US Beaureau of Labor Statistics (BLS) has a massive statistical table listing the US rate of inflation (as calculated by the Consumer Price Index) going all the way back almost 100 years to 1913. As you can see (if you clicked the link), no two years are alike. Some years, like 1918, inflation was at a record high of over 20 percent, meaning the economy was booming. Further down the timeline, we see 3 consecutive years of negative inflation rate in the early 30’s which of course coincides with the great depression and a shrinking economy. Over the last 20 years, the US inflation rate has been fairly stable, never fluctuating more than 5% in any given year.
2. Inflation Cuts Into Savings
Let’s imagine for a moment that you have $100,000 to invest and you put it in a no-risk 5 year CD (Certificate of Deposit) at your local bank with a 3% rate of return. A few years ago that rate would have been considered low, but at the time of this writing, you’d be hard pressed to find a bank that would offer you that interest rate. At the end those 5 years with the interest compounded annually, you would now have $115,927.41. Or would you? What if the inflation rate averaged 2.5% over those same 5 years? Calculating for inflation, you’d really only have $102,525.13 in inflation adjusted dollars. See how inflation plays with your mind? Now, go apply this principle to what you think you are successfully squirreling away for retirement and see what you come up with.
3. Inflation Rate and the Annual Salary
I remember in 1995, thinking $35,000 was a decent salary for a white collar worker in the Northeastern US. With $35,000 a year, you could live quite comfortably with all your needs (and even a few wants) met quite easily. Today, if you wanted to live at that same level, an annual salary of $50,000 is needed. But, in 1995 $50,000 would have sounded extravagant. The average pencil pusher didn’t make that kind of money. Let’s look at another example. In 1995, folks who made 6 figures had this aura around them. How do you make SIX figures?! Today, making six figures, especially in a two income household, is quite common. See how the rate of inflation sneaks up on us and in essence robs us?
How has inflation rate affected your perception of money?
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