Arti Arora, CFP | Head Financial Planner
Inflation is a necessary evil. Remembering my graduation days when I was pursuing economics, this was one line that stirred my mind then and it still stays with me even after 15-16 years.
The fact that inflation is all pervasive and applies to just everybody equally without any bias is of course an interesting feature. Mind you, I am not saying that it impacts us all in the same way, which varies as per one’s financial set up; its effect in terms of valuation of good & services remains the same though.
In construct of any Financial Plan or Investment / Goal Funding Plan, inflation has a very significant role to play. Not accounting for inflation is as good as not planning at all. If we go a generation back to our parent’s, I think this is what happened when they merrily bought those LIC Policies with sum assured of a lac or couple of them because in their time the ‘Lakhpati’ schemes were the ones being fancied. This is in stark contrast to today when even ‘crorepati’ plans don’t attract our attention.This is how inflation plays the spoiler, if not taken into account while planning for one’s finances in general and financial goals more specifically.
While the generic inflation indexes as Wholesale price index and consumer price index reflect upon generic inflation rates and while the latter is a better indicator than the former, both do not exactly replicate what we as consumers of different goods and services witness.
According to the life stage one is in and the different financial goals one may have, the concept of taking in account variable inflation applies. Living in India, an assumption of 5-6% average inflation is ok but the same cannot and should not be applied to the health or education at least in the private sector or even to maintaining a particular standard of living for one self and the list really is endless.
If you have children whom you have enrolled in sports or some other classes, an average 10% annual inflation may apply in the fees being paid and the same or even higher may be seen for pediatrician’s visits too. If you fit in the millennial category, dining out to a decent place or buying that luxury item would see similar inflation figures. If you are in your 40s or 50s, funding for your child’s higher education or perhaps shifting to a bigger house and paying for the ongoing living expenses year on year may be a pinching reality and all this boils down to inflation broadly.
Limited resources, ever increasing population & hence demand warrant a case for increasing inflation and so does economic growth. Our purchasing power is improving, we are consuming more luxury items and services, wider spectrum of lifestyle changes are being adopted even with rising inflation and it augurs well. This is why we call Inflation a necessary evil because none of us would want deflation to prevail as that indicates recession.
When one clearly understands the role & impact of inflation, accounts for it in their financial plans, strives to earn returns on investments / portfolio at least 200-300 basis points above inflation, one can be rest assured of sanity in one’s financial life that positively impacts the other quadrants of one’s life too. At the end, it is about making informed choices and when you know the peril, you know the guard too.