“We should be disciplined and responsible and then our prosperity will be stable despite any economic crisis, inflation or a change of government”
― Sunday Adelaja
Let’s assume you have established a savings plan to reach a specified amount of money down the road. You have it all planned out as to how much money you need to save each month to have that amount of money in 15 years based on a realistic interest rate or rate of return after taxes.
I congratulate you on your savings commitment!
There is a problem, however. Due to inflation, your savings target for 15 years down the road will not be enough.
Inflation will erode the purchasing power value of your money … year after year. Let’s say there is an inflation rate of 2% this year. This means that next year your dollars will be worth 2% less than this year. To make up for the deflated value of your dollars, the item that costs $100 this year will require you to fork over $102 next year.
A dollar still equals a dollar. You will simply have to allocate more dollars for the same item or service next year.
Let’s take a look at a hypothetical illustration. The components like the assumed interest rate and the inflation rate in the illustration aren’t all that important as the purpose is to simply illustrate the concept. All assumptions are for illustrative purposes only and may not be relevant in today’s marketplace.
Initial savings …. $10,000
Monthly deposits …. $499
Annual interest rate (APR) …. 2.5%
Years to target date …. 15
Average annual rate of inflation …. 2%
Total deposits …. $99,620
Interest earned …. $24,724
Gross future value …. $124,544
Purchasing power value …. $92,538
Over the next 15 years, you will lose $32,006 in the purchasing power value of your money!
If you don’t increase your monthly contributions each year to offset inflation, the amount of money you will accumulate will be substantially less than you hoped for or need.