Inflation could cost you a comfortable retirement.jpg

Inflation could cost you a comfortable retirement

INFLATION HAS been described as a silent assassin. It is like a slow disease, eating away at the power of your money, until it has wasted away. Inflation should not be underestimated.

Retirees should be especially vigilant. The capital that you have, at the start of your retirement, could disintegrate into next to nothing, unless you have planned well and taken inflation seriously. Over a 10 year period, the spending power of your capital could fall by 30 to 40 per cent, due to the eroding effects of inflation and, these days, retirement years usually span 20 or even 30 years.

The majority of people tend to link inflation with spending and the increasing price of goods, and do not connect inflation with saving. While rising inflation does mean that the euro in your pocket will buy less than it did when inflation was lower, it also means that your savings, particularly if kept on deposit, will also buy less in the long term, because inflation will have diminished its strength.

A number of retirees grow cautious and like to keep their capital in a bank, for safety and ease of access. British expatriates often make a profit from selling their UK home before moving abroad, and some will leave the excess on deposit, rather than think about how best the money could be used to see them through a happy retirement. Leaving all your capital in the bank is actually taking the risk that it won’t suffer from the diminishing effects of inflation. It is far better to keep enough cash on hand for sudden expenses, and place the rest where it can outpace inflation with steady capital growth, as well as income, if needed.

If you look closer at the bank interest rate you are getting, you may find that you are receiving less interest, or about the same as inflation. If your interest rate is, say, 2.5 per cent and inflation is running at 2.5 per cent, then your capital is earning you nothing. Even if you are earning a higher interest rate of, say, 4.5 per cent and inflation is at 2.5 per cent, you are still only earning two per cent interest over inflation, which is very low. There are a variety of alternative established investments, which offer better rates of return over the longer term.

The official figures for inflation are often quite misleading. Governments measure inflation on a “basket of goods”, which generally differs from what you spend your money on. The official inflation rates which countries announce, are usually lower than your own personal rate of inflation. The “basket of goods” tends to hold essential items, not luxuries that people like to buy, or some necessities like private medical insurance.

Even so, according to the British newspaper, The Independent, the Consumer Price Index (CPI) excludes key housing costs, such as mortgage interest payments, council tax, road fund licences and television licences.

The Independent has devised its own index, dominated by the cost of running a home, paying for public utilities, maintaining a car and basic items such as clothing, furniture and pharmaceutical goods. In June, it reported: “While the official inflation rate the Bank of England uses to set interest rates has been below two per cent for 20, out of the past 28 months, our index has been above four per cent for 17 of those months and higher than five per cent for five.

“In other words, non-discretionary inflation is running at about twice the targeted one and, in October 2004, showed an annual rise of 5.3 per cent, more than four times the official measure of 1.2 per cent.”

Perhaps the biggest cause of rising inflation is the international oil price, which has risen to a new record of over 78 dollars a barrel. Oil and fuel is a necessary requirement for many goods and services, and has a knock-on effect. The latest figures could stoke inflation up even higher in coming months.

In the UK and Eurozone countries, inflation continues to struggle to keep to the preferred rate of two per cent. The European Central Bank has warned that prices are forecast to rise above its two per cent target until at least early 2009. CPI inflation, in the 12-nation Eurozone, is standing at around 2.5 per cent and, in the UK, at around 2.2 per cent. However, rates fluctuate, and remember that these are the ‘official’ rates. The cost of living in the UK is generally higher than in some European countries and British expatriates need to keep an eye on the situation, especially if there is a possibility they might return to the UK to live in later years.

The key to beating inflation is to invest wisely, and to ensure that your returns keep pace with inflation. Firstly, assess how much money you can afford to invest and how much risk you are prepared to take over the safety net of a bank deposit account. Next, talk to a local independent financial adviser, who will explain the various investment vehicles available and suggest which ones would best suit your particular circumstances. Be sure to discuss diversification and the benefits of spreading your assets across a broad spectrum of options, which will provide income and capital growth over the longer term at a low risk level.

Finally, relax and enjoy your retirement in comfort, knowing that over the next 10, 20 or even 30 years, inflation will not be something to unduly worry about.

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