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Will Inflation Affect My Retirement?

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Inflation refers to the rise in prices of goods and services over the years. It is inevitable and out of your control. While inflation is not always bad, and a rate of an average of 2% is good for the economy, it can affect your long-term financial security. The inflation rate is decided by the Bureau of Labor Statistics (BLS), which also determines the Consumer Price Index (CPI). The inflation rate for a particular year is decided on the basis of the CPI. The CPI takes into account the average prices paid for daily use products and services by 93% of Americans and accordingly measures the inflation rate. 

Inflation affects everyone, irrespective of age. However, it can be most concerning in retirement. Inflation and retirement are often spoken about together. Planning for retirement is challenging as you are essentially preparing for the future. Your needs, attitudes, and family composition will likely evolve with time. It is undoubtedly tricky to plan for all of these needs effectively and accurately. Inflation further complicates matters as you are left with money that depreciates over time. It is advised that you consult with a professional financial advisor who can help generate inflation-beating returns to secure your retirement years.

While it is impossible to predict the future and changes you will likely witness in inflation and your needs, it is always advised to keep a buffer for them when you plan your retirement. Here's why.

Why are retired people hurt by inflation?

The biggest way in which inflation can affect you is by diminishing the purchasing power of your money. Most retirees depend on their savings for their survival. While some may choose to work part-time or have another source of income, such as rental income or dividends, a majority save up for their retirement needs much in advance. This limited pool of savings is expected to last an average retiree for 20 or more years, depending on when they retire and how long they live. When the inflation rate increases, the retirement nest egg is diminished. The same amount of money has to then cater for increased expenses while the lifestyle remains more or less the same.

Retired people are also the worst affected by inflation as they do not receive the cost of living adjustments. If you are working, you will receive timely salary hikes. Your income will also consistently rise with time as you gain more experience and move up the ladder. While these hikes are not always adjusted to inflation, you have several opportunities to earn more money, take on more work, upgrade your skills, etc. As a retiree, these opportunities are few and far between.

Retired people may also spend the most on the worst-affected products and services by inflation, such as food, medical care commodities, healthcare services, and others. In fact, when planning for retirement, inflation in the healthcare sector is one of the most common issues you can face.

How does inflation affect retirement?

Inflation can negatively impact your retirement in a number of ways, such as

1. Increased expenses and bargained lifestyle

When your expenses increase, earning more is the only way to tackle the shortfall. However, since retirees do not have viable sources of income other than their savings, they can be forced to adjust their lifestyle. The worst affected goods when inflation rises include flour, gas, meats, etc. These are essentials that any average retiree will require for sustenance on a daily basis. When the prices rise, retirees have to cut out or lower their spending on these heads. Not only does this affect the person's peace of mind, but it can also lead to health issues, which can further add to their expenses.

2. May increase debt

The rate of inflation rose to 8.5% in 2022. This unprecedented increase impacted all households alike. However, it can be particularly devastating for a retired individual. Used cars, furniture and bedding, etc., were among the items worst affected by inflation. For retirees needing these products, the way ahead can be to take on debt. This can further create a loop of high cash outflows and impact savings. Financial experts strongly recommend not mixing debt with retirement. In fact, it is advised to settle all your debt liabilities before you retire. However, inflation and retirement can be an unlikely combination to compel you to take on debt.

Some people may also be forced to depend financially on their kids or other family members, which can be demoralizing and lead to family issues.

3. May force you to work beyond retirement

A prolonged high inflationary period may leave you with no choice but to go back to work again. Working after retirement can offer some benefits. You get more time to build your retirement pool. You also stay engaged and possibly healthier by being active. However, this may not be feasible for everyone. Working may be possible in the initial years of retirement when you are young. As you grow old, your health may prohibit you from working. Further, you may also find your skills obsolete after a while, making it hard to get a job even if you are physically able to do so.

4. May force you to downsize

Another way in which inflation can impact you in retirement is by compelling you to downsize. For a lot of people, retirement implies luxury. There are a lot of things you may not have had the time for when you were working and taking care of your children and household. However, post-retirement, you have the time and little to no financial responsibilities to live the life you always wished for. An event like inflation can hamper these goals and force you to downsize. You may have to move to a smaller house or a different neighborhood, which can affect your socializing routine. Additionally, you may have to sell some possessions, such as cars or gold. You may even have to move states if you want to lower your tax liabilities.

5. Can hamper peace of mind

When planning for retirement, inflation can be one of the most damaging factors if ignored. It can bother you physically, mentally and financially. While the financial and physical aspects are often spoken about, the mental element is not given its due. Rising expenses and lower income can be distressing for families and cause a lot of stress, leading to feuds, additional costs due to health concerns, and may even affect longevity.  

How to avoid damage by inflation in retirement?

Retirement and inflation are almost inseparable. Therefore, the best way to avoid any of the above mentioned issues is by planning well and preparing for the worst. Here are some tips that can help:

1. Start investing early

Most financial advisors recommend paying attention to the time spent in the market rather than timing the market. Therefore, make sure that your time spent in the market is long. A long investment horizon can offer you better opportunities to make money. It can also help minimize losses as you stay invested during most market downturns and eventually come out with a stronger reward.

Start investing from a young age and be as consistent as possible to ensure that you get enough time to save for retirement. Also, make sure to increase your savings and investment rate periodically. You may have a lower income at the beginning of your career and can therefore start low. However, with time, try to save and invest more to move in pace with rising inflation.

2. Invest in inflation-beating instruments

As established, investing your money is essential when planning for retirement inflation. However, it is crucial to select a suitable investment for the same. There are a number of options in the market ranging from high risk and return to low risk and return. It may be better to opt for the former in the early years of your career as you would have a long investment horizon ahead of you then. These high-yielding instruments can help you keep pace with the rising inflation rate by earning returns in tandem with the increasing prices and possibly outpacing them. Inflation-beating investments can include stocks, real estate, cryptocurrencies, etc. Stocks may be the easiest to invest in as the investment amount is low, depending on the shares you purchase. However, it is essential to pick the right stocks and to keep your stock portfolio diversified. Real estate can also be excellent. Real estate prices, as well as rents, increase with inflation. Therefore, you can earn more even during high inflationary periods. Cryptocurrencies are also delivering high returns. However, they are incredibly volatile, and prudence is strongly advised when dealing with them. You can also consider investing in gold, as gold prices also increase with inflation and can provide a good hedge against it.

3. Consider working for longer

Postponing retirement can help you save more and accumulate more funds for your golden years. This can be advised if you are healthy and able to work for a longer period of time. A lot of people work beyond their 60s and 70s not only to earn more but also to stay engaged and have a purpose in life. Working longer has been associated with better health, peace of mind, and overall happiness. It can also be financially rewarding, especially if the inflation rate has been high during the years around your retirement, such as the present.

4. Diversify your portfolio

According to the United States Federal Reserve, as of November 2022, the country's 10-year breakeven inflation rate was 2.32%. The same hit a record low at 0.04 in November 2008. It can take a lot of work to find the precise inflation rate for retirement planning and model your plan around it. Inflation can vary over the years. However, creating a diversified portfolio can help you account for these varying changes in the inflation rate. Diversification refers to investing in a mix of asset classes, sectors, etc., to ensure you get exposure to multiple market opportunities and do not limit your scope by concentrating risk in one place. When investing your money, keeping a healthy mix of retirement and pension accounts, stocks, bonds, index funds, mutual funds, savings accounts, etc., is essential. The right pick can depend on your age, goals, risk appetite, etc. So, pick accordingly. If you are unable to do so, you can consult with a financial advisor.


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5. Maximize your retirement contributions

Your 401k retirement account or the Individual Retirement Account (IRA) can be useful tools when planning for retirement. One way to ensure that your future is inflation-protected can be by maximizing your contributions to these accounts. Maximizing your contributions in a 401k helps you get a suitable employer match, which further helps you earn more. Employers usually match a percentage of the employee's contribution. So, the more you contribute, the more you get from your employer, too.

An IRA does not offer an employer match as it is not a company-sponsored account. Nevertheless, maximizing your contributions can help you reach your retirement goal sooner and save more to account for eventualities like inflation. Moreover, the 401k and the IRA are both tax-advantaged accounts that help you save money otherwise spent on tax. You can use these savings to invest more and enjoy dual benefits. You can also consider picking the Roth variant of these accounts. Roth accounts are tax-free in retirement as you would have already paid tax in your contributing years. Therefore, you get to save more money in retirement and have a higher disposable income.  

To conclude

Inflation is one of the significant issues you may have to deal with in retirement planning. Retirement and inflation are closely attached. Therefore, avoid making the mistake of undermining it. Even though you cannot stop inflation, you can prepare yourself for it. Investing your money and allowing it to grow is essential. Your money should never sit idle and should always be working for you. Make sure to pick suitable investments for your goals and take help from a professional financial advisor regularly to ensure your retirement plan is inflation-proof. This can help you rectify errors at the right time and live a peaceful and stress-free life after retirement.

Use the free advisor match service to connect with 1-3 financial advisors based on your financial requirements. All you need to do is answer a few simple questions about yourself and the match tool will help connect you with advisors suited to meet your financial needs and goals.

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The blog articles on this website are provided for general educational and informational purposes only, and no content included is intended to be used as financial or legal advice.
A professional financial advisor should be consulted prior to making any investment decisions. Each person's financial situation is unique, and your advisor would be able to provide you with the financial information and advice related to your financial situation.