Ok, was it me or was that recent almost 1% drop in inflation a little weird to watch. I mean I know gas was dropping in price but I didn’t expect that big of a shift in the CPI (Consumer Price Index) between months. We were at about 3.4% and are now at 2.6%. So that seems to line up with my personal observation that assuming an inflation number over 3% is a bit excessive for retirement calculations.
Of course with a statement like that your are going to ask: prove it. Ok, here’s a little data analysis. Let’s look at the CPI from 1995 to present (see here). So from Jan 1995 to Oct 2008 inflation was only at 3.0% or greater for a total of 18 months out of 166 or about 11% of the time. Typically this sections of higher inflation only last four month or so before dropping back down. Basically a little smart planning and you can avoid the worst of the effects of inflation be controlling your spending during these brief high periods. The average inflation during this time was a mere 2.1% even including the high parts.
But what about history? Ah yes, let’s look at that. I’ve got an 2007 Andex Chart here in front of me showing the inflation averages by decades. For the 50’s it was 2.4%, 60’s was 2.6%. Then for the completely screwed up 70’s and 80’s the average was still only 7.6% and 6.2% respectively. The 90’s average was 2.1%. So did you notice that? If you ignore the 70’s and 80’s for a moment, you notice that we have almost four decades where the average was around 2.3% instead of the actual average of 4.2%.
So what about those awful years from 1972 to 1983. Perhaps we should put it into content. They were a freakish event where the government let things get out of hand. In summary, it was a mistake. Something that has a relativity minor chance of repeating itself in my opinion (but feel free to argue with me on that one).
You see the danger of including that period of high inflation is your taking a rather unusal event and making it normal. Rules of thumb are suppose to be general and not applicable to freakish events like inflation from 1972 to 1983. So why do people keep insisting on using a 4% inflation number in their calculations? It personally doesn’t make that much sense to me.
Well that’s just my rambling thought on this. Feel free to tell me I’m wrong and why in a comment.