Why you have to worry about inflation?


The inflation rate in the United States was around 2%, but it temporarily dropped sharply due to the economic suspension caused by the corona. And since the spring of 2021, economic activity has opened and people have started to move, and it has been rising in recent months. It was 2.6% in March 2021, 4.2% in April, and 5.0% in May. I’ve seen articles here and there about rising inflation, but what impact does this inflation rate have on us as a consumer and as a saver of tuition and retirement costs?

Impact of inflation

Inflation is commonly expressed as the Consumer Price Index (CPI). It shows the rate of how much general prices have risen compared to the previous year.

Inflation is extremely low in Japan, and negative inflation (price has fallen rather than risen) has often been common in the past, even if it is positive, it is often less than 1%. If you offset each year, I think the price hasn’t changed in the last 20 years.

Thirty years ago when I came to the United States for study abroad, Japan was a bubble and everything was expensive, and when I saw what was sold in the United States, I thought, “How cheap!” Thanks to this, even the poor students who came to Amelia with a small circle were able to make a good living. Every time I went back to Japan, I brought back “○○ that can be bought cheaply in the United States”. But now it’s the opposite. America has become a very expensive country. Now, every time I go back to Japan, I wonder, “How cheap is Japan!” No wonder. Prices have been rising at around 2% in the United States, but not in Japan at all.

In fact, most of the articles on financial planning in Japan do not consider inflation at all. Because there is no need for it. For example, if the current food cost is 100,000 yen, it will be 100,000 yen even if you enter old age at 65 years old (without considering changes such as thinning food for the time being), and 100,000 yen even at 80 years old. If you think about how much the total food expenses will be for 25 years after retirement (although few people may calculate it, but for the time being, as an example), it is calculated as 100,000 yen x 12 months x 25 years. It’s just a simple multiplication.

Such a calculation does not hold in the United States. Because there is inflation. If the current food cost is 100,000 yen, it will cost 102,000 yen next year and 104,040 yen next year, considering 2% inflation. It will be 181,136 yen in 30 years. Prices are getting higher and higher, so even if you buy and eat the same thing, you have to build more dollar-denominated budgets.

This 2 percent inflation is the inflation rate targeted by the Federal Reserve Board (FRB) (by the way, the Bank of Japan is also targeting 2 percent). The actual inflation rate may be higher or lower than this, but the mechanism is to keep 2% as much as possible by monetary policy while observing the state of the economy. Therefore, in financial planning in the United States, at least 2% should be planned as an inflation rate. Otherwise, if this target of 2% inflation is achieved as it is, the planned target will not be achieved. The planning software I use expects inflation of 2.25% by default.

Nominal yield and real yield

Nominal yields are the yields we see here and there. Bank deposits with an interest rate of 1%, stock yields with an interest rate of 8%, bond interest rates with an interest rate of 4%, etc., are all nominal yields.

On the other hand, the real yield is the yield that remains substantially after deducting the inflation rate. If the inflation rate at that time is 2%, the real yield of 8% stocks will be 8% -2% = 6%. Nominally, it increases by 8%, but 2% of it is’eaten’by a typical price increase, so the yield that actually increases money is 6%. If you live in a world with constant inflation, it’s very important to pay attention to this real yield. If nothing is done, the value of cash on hand will decrease substantially against the price that increases by 2% every year. With a nominal yield of 2%, which is the same as the inflation rate, prices are finally rising. Only when you have a nominal yield above inflation will you have a substantial increase in money.

The idea that “a 1% increase in bank deposits is a guarantee of principal, so you can rest assured” may be true for living in Japan, where the inflation rate is almost negligible, but the constant inflation rate is 2%. It doesn’t go through in America. A bank’s interest rate of 1% -inflation rate of 2% becomes -1%, and the principal guarantee does not change with the nominal principal (absolute amount), but the value of money decreases by 1% every year. It means to do it.

That’s why inflation is something you always have to pay attention to, whether you’re saving money for school or retirement. If you want to increase your money substantially, you need to secure a yield above the inflation rate, and if you want to keep the value of your gold even if you don’t increase your money, you need to secure a yield equivalent to the inflation rate.

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