With the current high rates of inflation throughout the United States, many retirees are worried about running out of money, especially those people who were pushed into retirement early due to the pandemic. The costs of everyday items like milk and fuel have increased dramatically with inflation rates that are the highest they have been since the late 1970s and early 1980s.
Part of the stress has to do with the uncertainty about inflation rates. These high rates could last for a long time, or they could decrease quite quickly. Experts have no clear idea of what is going to happen, so retirees are worried about what all this means for their budgets.
Unfortunately, stress and anxiety often lead to poor economic decisions. In this uncertain time, it is important not to make any rash decisions based on emotions rather than logic. Here’s what you should think about instead:
Putting the Issue of Inflation in Context
Certainly, inflation is one of the major risks that people face in retirement, since they are largely on a fixed income. However, it is important to put this risk in context. Someone who is now 65 and experiencing this level of inflation would have been 25 when the average annual rate previously reached 14 percent.
Many people who came of age in the 1970s and 1980s fear double-digit inflation because of the impact it had, but a lot of time has passed between then and now. Furthermore, there are ways for the government to deal with this problem. The current economic policy may encourage inflation, but the Federal Reserve has options when it comes to quelling the economy should the problem continue.
You also need to put current inflation rates in the context of the pandemic. The economic pressure of the pandemic caused turmoil across the world, and it is no surprise that this is the result. However, this should cause you to wonder if the current level of inflation will continue. The economy will take years to recover, and equilibrium will likely consist of a drastically reduced number of jobs compared to before the pandemic.
This is not the type of economic environment that encourages inflation in the long term. Economists are already warning that overcompensating for the perceived risk of inflation is likely a larger risk than inflation itself. Historically, however, countries and governments cannot simply print money and create debt like we have for the past 30-40 years or so without experiencing a significant loss of purchasing power ( “inflation”).
The Appropriate Reaction to Higher Inflation rates
People may then wonder what the correct reaction to high rates of inflation is. Inflation is a significant force even during normal times. Assuming the typical rate of 3 percent, the price of goods would double in about 25 years. This means someone who retires at 65 would have financial power cut in half by the age of 90. In recent months the CPI ( the Consumer Price Index) has been rising at 7-8% or more. If inflation rates were to average 6%, instead of the more usual 3% going forward, then it would only take 12 years for the retired person to see their budget double! A 65 year old today, would face twice the level of expenses by age 77! This would obviously be a major problem for all but the most wealthy individuals.
Because this is unavoidable, it is also important not to overreact too much to inflation. You can keep yourself on the right track by sticking to a few key principles. For example, avoid overcompensating if you worry about running out of money. Never put your money in riskier investments with the hope of beating inflation. You’re more likely to lose than actually benefit in this situation.
At the same time, it is important to remember that even though you are retiring, you are still investing your money for the long term. This means that at 65, you are investing for when you turn 90. This means that you need to accept some risk. Retirees sometimes cut all risk out of their investments once they retire to protect their nest eggs.
While you need to lower risk to protect your money, you also need to leave some money invested so that it can grow for the future. This strategy is your best protection against inflation as it encourages your savings to grow at an appropriate rate. Stocks tend to outpace inflation over time, at least historically. The S&P 500 earns about 7 percent each year, which is significantly higher than the typical 3-percent inflation rate. But the best proven inflation hedges, or “stores of value” over time, and through periods of higher inflation, are precious metals, such as gold and silver. Stocks and real estate can act as inflation protection under more normal inflation rates, such as 2-6%/year, but if inflation rates are higher than that, these assets typically do NOT keep pace, and it takes precious metals, commodities, and other assets that are non-paper based ( i.e. OUT OF THE DOLLAR) to survive the inflation intact, or in reasonable shape.
For many people with significant liquid portfolios, the emerging field of crypto currencies and digital assets is worthy of a small percentage allocation in the portfolio as well, since these are also non-dollar/non-fiat investments, and therefore offer a scarcity, or “limited supply” scenario. The prime example is Bitcoin, which is being adopted more and more by hedge funds, billionaires, and even entire nations.
How Flexibility Can Help Cope with Inflation
The other tool that you have when it comes to coping with inflation is flexibility. People change their spending habits over the course of retirement. You can do this in a way that takes inflation into account, especially since inflation tends to impact some parts of the economy more than others. If necessary, you can move to a cheaper area or reduce your reliance on fuel. Making these changes can help you get through a period of high inflation without impacting the longevity of your savings in a serious way.
Another option in retirement is to keep working. When you earn some extra money in retirement, that means fewer withdrawals from your savings. While you do not need to go back to working full time, doing the odd consulting job or taking on a side hustle can help soften the blow.
Flexibility may also mean relying more heavily on some forms of income, such as Social Security. This money comes with a built-in cost-of-living increase that is based on the published inflation rate, so it is an effective tool for combating inflation. It is also advisable to have your financial planner build in future income boosts, or staggered increases in income over time through various instruments such as guaranteed income annuities.
This also speaks to the importance of maximizing your Social Security payout from the very beginning since the adjustment is a percentage of the total you receive. While there is a lot of talk about Social Security funds drying up, the truth is that even conservative estimates will keep the payouts coming at least 70 percent of the expected benefit.