Could Inflation Affect Your Retirement Plans?

Those who are approaching the retirement years often realize the detrimental effects of inflation on their savings. As the cost of goods rises, the value and buying power of many retirement accounts diminish. And for some, maintaining their savings and lifestyle becomes a challenge if they haven't prepared for the ups and downs of the market cycle.

Luckily, there are different methods we can use to adjust for inflation and help protect the value of your portfolio. Below we’re discussing some of the ways inflation affects retirement and how you can prepare.

How Is Yearly Inflation Calculated?

Inflation is calculated using the Consumer Price Index (CPI) which calculates inflation across major categories before determining a yearly inflation rate expressed as a percentage.¹

On average, the U.S. experiences an inflation rate of roughly three percent.² Currently, higher interest rates are starting to ripple through the personal finance landscape, and it doesn’t look like that trend will change anytime soon. The Federal Reserve has indicated it plans to keep raising short-term interest rates to help manage inflation, which is at its highest level in 40 years, more than double the average. You’re likely seeing the effects of inflation when buying gas or groceries, and you’ll notice it if you are shopping for a new or used car.

The Federal Reserve’s job is to control inflation. By raising interest rates, the Fed hopes to slow spending, bringing down consumer prices. Remember, your overall strategy considers that there will be transition periods in the economy.

The percentage expressed by the CPI are helpful for understanding inflation across multiple markets. But these values should also be understood as a general approach, meaning the real impact of inflation will depend on the individual.

For example, we might assume that a retiree might need to withdraw an additional three percent from their savings each year in order to adjust for inflation. But this isn’t the whole picture. Instead, individuals should consider the specific ways that inflation affects them.

Considering Individual Costs

Inflation affects each of us differently. For example, the rising cost of gasoline would affect someone that drives long distances more than someone without a vehicle.

Retirement acts in a similar fashion, as it creates a lifestyle change that causes inflation to affect retirees differently.

One of the better ways to measure this difference is through the Consumer Price Index for the Elderly (CPI-E), which shows inflation rates for households with individuals age 62 and above.³

However, this is still a generalization, though of a specific population. The best way to determine the cost of inflation is to examine your personal lifestyle and make adjustments.

Managing the Effects of Inflation

With the above in mind, here are some ways to help offset inflation during retirement.

Social Security

The Social Security Administration provides the Cost-of-Living-Adjustment (COLA) to offset some of the effects of inflation by raising Social Security benefits.⁴ The 2022 COLA adjustment was 5.9%. This can be an important source of income during retirement. However, this COLA increase can be offset by rising costs of Medicare part A&B as we saw this past year.

Investments that Adjust with Inflation

Certain investments can adjust with inflation and help maintain your purchasing power. Typical investments to combat inflation include US and international equities, Treasury Inflation-Protected Securities (TIPs), Real Estate Investment Trusts (REITs) and commodities. However, any investment comes with risk, something that should always be considered during retirement.

Be sure to consult with your financial advisor before making any investment decisions.

A Change in Lifestyle

Consider your retirement goals and overall lifestyle. Is there something you can trim back on to save on the cost of inflation? This does not mean you need to give up on retirement goals. Rather, what can be adjusted to help you achieve them while maintaining your savings?

This is by no means a comprehensive list of ways to protect your retirement savings against inflation. Rather, it is intended to demonstrate some of the options available to you. Consult with your financial advisor to acquire a better understanding of how inflation will affect you, and what you can do to help protect your retirement savings.

If you have any questions about inflation or interest rates, please reach out. We’re always here to help put things into perspective.