Conrad Slate | March 25, 2022
Inflation is a hot topic today. At an annual rate of about 8% as of this blog, it is at a 40 year high.
Remember the early 80s? A bank CD could be found at 15% or so. Wow! That sounds great! The problem was that inflation was at about 19%! The “nominal” or stated rate of 15% was great, but the actual buying power was -4%. Yes. At a 15% rate of interest the actual buying power of that was negative. Subtract the income taxes paid on the interest, and in real terms an individual could have been losing 7%, easily.
If we depend on the fixed interest generated from savings, CDs, or on dividends, then inflation really matters! We need something that bears a return greater than inflation and the taxes we pay. A CD at 1.5% is losing 6.5% to inflation.
Social Security and some pensions have an annual cost of living adjustment (COLA), but it normally lags what we really spend.
The most sinister thing about inflation is that it very rarely decreases. So each 2%, 3%, or 8% rise in inflation is added on top of what was there the year before. Some prices do go down when things improve (gas is an example) but things like wage inflation rarely do. So inflation from the past continues to impact us for long periods of time.
If we save in a bank or some form of fixed interest then we have to hope that interest rates will exceed inflation. That has not been the case for some time now, even though inflation has been low in recent years.
With the Fed announcing a 1/4% interest rate hike last week, interest rates we receive will probably not go up very fast. Even if the interest rates we receive go up quickly, when will our CDs pay 8%? Who knows, but my bet is it will be a long time.
So what is the answer? It isn’t CDs or fixed interest. For the big majority of us, we have to take a more balanced approach. We don’t have to make high risk moves, but we must be wise. We must put some of our money where we can expect to outpace inflation. Everyone needs money in the bank for unexpected and normal living expenses. We also have to think about whether our money will last.
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