The Cost of a Dollar

The economic meltdown of the past year or so gave rise to such gloominess that some forecasters were hinting around about the possibility of deflation. Not anymore. It’s time to take the likelihood of long-term inflation into account as you plan your financial future.

As the chart below shows, the inflation rate rose a full percentage point in 2008 to 3.85 percent, its highest level in a decade. Despite drops in inflation for the early months of 2009, many observers are predicting an eventual return to much higher increases in the cost of living.

Inflation Never Lets Up
Even therelatively modest inflation rates of recent years takes a significant toll over time. After 10 years of 3 percent inflation, that dollar bill in your pocket now would be worth only 74 cents in today’s dollars.

The Impact on You
Here’s an example of how inflation affects your life right now: If you paid $60 for a week’s groceries in 1988, you’re paying about $111.62 for those same items today.

If you paid $40,000 for a new truck in 2000, it will cost you nearly $50,000 to replace it with a similar 2010 model. Ten years from now, a comparable new truck will cost you about $64,000 (assuming an unlikely low 2.5 percent inflation rate). Many economists are predicting that inflation will spike considerably higher over the next few years partially due to those massive government stimulus packages.

Calculating inflation’s effects over a period of two or more years can be dauntingly complex. That’s why it’s difficult to make simple dollar-to-dollar comparisons from one year to another. If you’d like an easy way to gauge inflation’s effects on some of your personal or business expenses, log on to www.westegg.com/inflation. This easy-to-use inflation calculator adjusts any given amount of money for inflation, according to the Consumer Price Index, from 1800 to 2008.

How to Compensate
One way of helping to protect yourself from inflation is to invest part of your portfolio in dividend-paying stocks that have a long payment history and a record of steady dividend increases. Most investment professionals agree that a retirement portfolio should contain some stocks as a hedge against inflation.

Another method is investment in inflation-indexed Treasury securities (TIPS). These Treasury bonds provide a return based on the current rate of inflation. So, when inflation rises, you’ll get a higher interest rate.

Regardless of the method you use for financial planning, you must take inflation into account. If you hope to enjoy financial security, you’ll have to arrange for it yourself. No one else is going to worry about your financial future.

One way to make it happen is to maintain a detailed financial plan. “Without a roadmap, it’s difficult, if not impossible, to see where you’ve been and where you’re heading,” says G. Mike Crawford, CEO of Lifeplan Financial Group, Dayton, Ohio.

Understandably, he believes that a retirement plan prepared by a certified financial professional is the best choice for most people. Still, Crawford recognizes that many people prefer to do their own planning. “Whether you call on a financial professional or prepare it yourself, it’s important that your plan stay active and flexible,” he says.

Crawford stresses that taking full advantage of tax-deferred retirement accounts such as 401(k) plans is an essential part of retirement planning.

But whatever form your final plan takes, whatever the size of your investment portfolio, make certain that you take the inevitable effects of inflation into account.

The author is a freelance writer based in Abington, Pa., with 40 years experience in business management and financing.