How Can Inflation Affect Your Retirement Planning?

Inflation remains one of the most pressing macroeconomic challenges for the entire world. It means a sustained increase in the general price level of an economy. You can feel the impact of inflation when you visit your nearby stores to buy groceries or stand in a queue waiting for your turn at a petrol pump. 

However, inflation not only impacts you when you go out to buy some goods but also impacts retirement planning. It erodes your purchasing power and the real value of money. So, let’s see the effect of inflation on retirement planning. 

What Is Inflation?

Inflation is an increase in the economy’s price level. It measures the percentage rate at which the price of various goods and services increases in an economy. In other words, we can say that inflation indicates that one unit of a currency values less than the previous time period. 

Usually, we measure inflation using two indices which are the consumer price index and the wholesale price index. The former considers inflation at the domestic level, whereas the latter indicates inflation at the manufacturing or business level.         

How Does Inflation Work?

When analysing inflation, you can know the change in the value of money over time. It also tells you the income that you should have with you in future to maintain your present standard of living. 

In India, the Reserve Bank of India (RBI) releases monthly inflation figures via consumer price index. For example, considering the past inflation rates, we can assess that the value of Rs. 1000 in 2022 will offer you the same purchasing power as Rs. 500 in 2012. 

The rate of Inflation depends on the market forces of demand and supply. In case of reduced supply due to a rise in input costs and taxes, the economy will face cost-push inflation. Similarly, a situation of excess demand will lead to demand-pull inflation. There is also a third type of inflation, called built-in inflation, which occurs due to people’s expectation of a rise in the prices of goods and services in the future. 

Sources of Income for Retirees

Retirees require a sustained flow of income so that they can maintain a basic standard of living when they are not working. Here are some sources of income for retirees: 

  • Government backed pension schemes

Pradhan Mantri Vaya Vandana Yojana (PMVVY)

In 2020, the government introduced a new policy (run by LIC) for providing pensions to senior citizens (aged 60 and above). The scheme has been extended till March 31, 2023. It is a non-linked, non-participating scheme that the government of India subsidies. The interest rate on offer is 7.4% per annum.

Senior citizen savings scheme (SCSS)

Senior citizen savings scheme (SCSS) is one of the most popular options for the retired to derive regular income. It is also among the safest. It is a scheme run by the government of India. SCSS is like a fixed deposit scheme with assured returns and no risks. The interest rate on offer is 7.4% a year.

  • Interest, dividends or rental income 

Every retiree who undertakes investments in instruments like stocks, bonds, fixed deposits, etc., can receive regular interest and dividends. The income from these depends on the amount invested. 

Apart from these, individuals can also invest in residential or commercial real estate. They can let out this property on rent and earn rental income, which will serve as another source of income. However, rental income varies with the size and location of a property. For example, rental income from a property in a high rise building in Mumbai will be far greater than rental income in any tier 2 or tier 3 city. 

  • Additional income

After retiring from a full-fledged job, individuals can opt for a part-time job which will give them some income for sustenance. Various companies offer specially designed freelance jobs for retirees based on their ability and past experience. 

How Inflation Impacts Your Retirement Plans?

Inflation reduces the real value of money and erodes your purchasing power. Given the potential ill effects it can have, it is imperative that individuals incorporate current and future inflationary risks while making retirement plans. 

In case of an inflation spike, you should have more money in order to maintain similar standards of living in the future. The growth of money should be more than the prevailing inflation rate so that your purchasing power does not fall. 

In India, inflation has been averaging around 6% for the last 20 years. Going by this trend, individuals who are retiring in 20 years and spend Rs. 40,000 on their monthly expenses will require close to Rs. 80,000 during their retirement to maintain the same level of living. 

How to Handle Retirement with Rising Inflation?

Here are some ways that can help you manage retirement expenses in the wake of rising inflation: 

  • Analyse spending patterns

You should always analyse your spending patterns over a long term horizon, preferably over 3-5 years. You can check your bank statements, credit card spending patterns and other variables so as to get an idea about spending patterns. This way, you can get an idea of the impact of inflation on your total earnings.

This exercise will also help you to estimate the income or savings that you should have with yourself during retirement so as to maintain your present lifestyle. 

  • Cut down on major expenses

In case inflation is shooting up rapidly, you can embark on a slew of austerity measures like cutting down on unnecessary luxury expenses like a long vacation or buying a new luxury house. You can postpone your tour and buying of a house till inflation reduces to a manageable level. 

  • Review investment portfolio

Another exercise that you can go ahead with is reviewing your investment portfolio. In doing so, you can withdraw your funds from investment vehicles that are offering low interest and reinvest them in instruments offering inflation-beating returns. 

This will help to maintain the value of your money with respect to rising inflation. Having a diversified investment portfolio as a part of your retirement planning can go a long way in securing your post work life. 

Final Word

A reduction in your purchasing power due to inflation can have severe consequences during retirement as there is uncertainty regarding the flow of income. It is important to consider inflation in retirement planning while setting your goals for a financially secured retirement life. 

Frequently Asked Questions

What are the best assets for investment during inflation?

Real estate, commodities like gold, silver, balanced stock and bond portfolios are some of the asset classes that you can invest in during times of high inflation. Investing in these assets can help in creating a corpus which can go a long way in securing your retirement life.

What are annuities?

Annuities are insurance plans which provide a regular, stable income to the policyholders. It is quite useful for retirees as it guarantees them a regular income source post retirement.

What are the types of inflation?

Primarily, there are three types of inflation that one should know about – cost push inflation, demand pull inflation and built-in inflation. Cost push inflation occurs due to a rise in input costs like wages, raw materials and cost of capital. Demand push inflation occurs due to excess demand for commodities at a point in time. The third type of inflation, built-in inflation, is a result of people’s expectation of a rise in the prices of the goods and services.

Investments Principal at Wint Wealth

Krishna is an investment professional with a demonstrated history of working in Debt Capital Markets. He has completed his B.E. (Hons) in Computer Science Engineering from BITS Pilani and MBA (Finance) from JBIMS, Mumbai. He is currently working as Investments Principal at Wint Wealth. Previously he worked at Kotak Mahindra Bank at their DCM desk and Northern Arc Capital at their Structured Finance desk.

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Disclaimer: This article has been prepared on the basis of internal data, publicly available information and other sources believed to be reliable. The article may also contain information which are the personal views/opinions of the authors. The information contained in this article is for general, educational and awareness purposes only and is not a complete disclosure of every material fact. It should not be construed as investment advice to any party. The article does not warrant the completeness or accuracy of the information and disclaims all liabilities, losses and damages arising out of the use of this information. Readers shall be fully liable/responsible for any decision, whether related to investment or otherwise, taken on the basis of this article.

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