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In This Article

  1. What is Inflation?
  2. What is Hyperinflation?
  3. The Time Value of Money
  4. Your Best Weapons Against Inflation
  5. The Bottom Line: Keeping Inflation in Focus

Your retirement is being attacked — by inflation!

That’s right.

Your dreams of sitting on a beach with gray hair, a good book, and a cold beer are under siege. It’s time to strategize to protect your older years and conquer inflation once and for all.

You’ve heard your grandparents talk about going to the movies when they were kids. For just a couple of bucks they could buy their tickets, a soda, and a supersized popcorn.

“Boy, how things have changed!” is usually their next line.  

But if you think back to when you were a kid, movies and snacks were cheaper too. That’s because of inflation.

Inflation makes the price of goods and services increase over time. It might not seem like a big deal when you’re younger, but inflation’s impact gets bigger and bigger over time.

By the time you’re planning for retirement, you’re in a battle against inflation.

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What is Inflation?

You must understand your enemy before you can defeat your enemy. 

While that might sound like fortune cookie nonsense, it’s good advice when it comes to tackling inflation. 

Understanding how inflation works will give you the upper hand in making sure it doesn’t affect you. With this knowledge, you’ll know how to protect your 401k from inflation.

The products you buy and the services you use cost more with inflation, but inflation isn’t just about increasing prices. Inflation is the continual rise in the average prices of goods and services. 

This results in a decrease in the purchasing power of your dollar — meaning you can buy fewer goods and services for the same amount of money. 

It’s an indirect relationship. As prices go up over time, the value of money goes down.

Inflation increases, purchasing power decreases.  

Prices of goods and services rise at different rates, and we use these changing prices to calculate an average inflation rate. The cost of goods is compared annually, so inflation rates can be compared year-to-year. 

According to Trading Economics, the inflation rate over the last century averages at about 3.25%. At 3% inflation, a $100 item costs $103 the following year. 

But there have been extremes. 

Inflation rates reached an all-time high of 23.7% in June of 1920 and a record low (deflation rate) of -15.8% in June of 1921. 

Since inflation can plummet or skyrocket, it’s important to keep an eye on it. In fortune cookie language: Never turn your back on your enemy. 

In 2021, the Federal Reserve expected inflation to average 1.8%, far below the average. Instead, the year closed with an inflation rate of 7% - the highest since 1982. Unfortunately, the attack on your retirement gets worse than what we experienced last year. We’re less than three months into 2022, and inflation has already risen to 7.5%.

While those rates eat into our budgets, and especially those of retirees, we are not at a point of hyperinflation.

What is Hyperinflation?

Hyperinflation is inflation that’s on steroids and is out of control. The cost of goods and services increases rapidly and in large percentages — like 1,000% or more per year.  

Two scenarios must occur simultaneously to create hyperinflation. The first is an increase in currency supply not supported by economic growth. This happens when governments saturate the economy by printing more currency.  

The second cause of hyperinflation is when the demand for goods and services is far greater than the supply. This cause is triggered by people who have the means to pay for goods at the higher prices created by inflation, which triggers demand. 

Causes of Inflation

So, where does inflation come from? 

Was it created in a crazed scientist’s lab? 

Was it spawned on some faraway planet and sent to weaken our resistance to an alien invasion?

Not quite.

There is more than one theory about what causes inflation.

professor reviews the causes of inflation for retirement

Inflation Theory #1: Demand Pull Theory

One is the demand-pull theory. 

Increasing demand for goods and services drives prices up to prevent inventories from being depleted. 

Inflation Theory #2: Cost-Push

Another theory is cost-push. If production costs increase, companies have to push up prices to keep making a profit. 

Inflation Theory #3: Monetary Inflation

Monetary inflation is another. If there is an oversupply of money, the value of that money goes down, and prices go up.

While they aren’t exactly the supervillain backstories of the century, these theories certainly give some perspective on why inflation exists in the first place. 

Unfortunately, they also highlight its permanence. Inflation is a part of our economy that is here to stay — at least for the foreseeable future.

Effects of Inflation

Inflation isn’t always bad. Sometimes it’s just misunderstood.

You’d think rising prices would hurt everyone, but they don’t. When prices spike and the value of a dollar goes down, some of us gain and some of us lose.

If an average rate of inflation is expected, wages increase with it. Sure, prices are going up— but paychecks are too. Fixed-rate mortgage holders and investors in stocks also benefit from higher inflation.

Those with contracted salaries or fixed incomes without the cost of living adjustments are not as lucky. Their purchasing power decreases with every year of rising inflation. Plus savers are negatively impacted if their money is stashed away accounts that are earning less than the rate of inflation. This is a big problem for many retirees.

There are two major takeaways here in terms of retirement planning:

Inflation is not always bad

Growing economies typically have modest inflation rates that allow for wages to keep up.

Inflation only becomes a real danger for the consumer when wages aren’t increasing.

Inflation can wreck your finances

When wages don’t keep up or you stop making money altogether, inflation can erode your savings and wreck your budget.

Over time, inflation reduces your purchasing power, so you will need more money to maintain your standard of living.

And don’t forget some costs — like medical expenses — outpace inflation by a significant margin most years.

Inflation rates are like bug bites. Some are poisonous, but most are virtually harmless. That doesn’t mean you want to get bitten though.

The best thing you can do is protect yourself.  

The Time Value of Money

100 dollar bill worth less over time due to inflation

Money can’t be worth more than it is today because of the time value of money (TVM). But the money you have today can be put to work for your future. The more money you have, the greater potential you have to generate more money.

The sooner that money is wisely invested, the longer it has to accumulate compound interest.

Because of inflation, you have more purchasing power today than you will tomorrow. This is the reason lottery winners are advised to take their winnings up front.

Their money is worth more if they take it right away than it will be if they choose to receive smaller payments throughout their lifetimes.

They just have to make sure they invest that money rather than blown on extravagant purchases!

Very few luck into a lottery windfall, but the same principle applies to your hard-earned dollar.

Your Best Weapons Against Inflation

If the average inflation is the minimum benchmark to keep pace with if you want to go up against inflation. To maintain and grow in value, your savings vehicle needs to be outdoing inflation.

Retirement plans ignoring inflation and a decline in purchasing power have the potential to fail as the years go on.

If you are just getting started with retirement income planning, online calculators that account for inflation like this one can be useful tools.

Consulting a financial professional is also a smart way to support and battle test your retirement planning.

Here are 10 strategies to help protect your retirement income plan and win the battle against inflation:

1. Keep Working

retiree kept working for extra income

If you keep working into your retirement years, you will collect a salary and benefits that are rising with inflation.

This can protect you financially in later retirement years because your retirement income and future benefits may be based on a higher overall final salary thanks to a few extra years of work.

2. Stay Invested in Stocks

Investing — or remaining invested— in stocks during retirement can help your retirement savings keep up with inflation.

There is no guarantee your stocks will outpace inflation, but “safe stocks” have historically performed well over long periods of time.

While switching to a more conservative portfolio seems like the safe option, diversifying with a mix of investments makes the most sense when protecting your portfolio against inflation.

3. Delay Social Security

If you have enough money to retire and are in reasonably good health, delaying Social Security payments can help guard against inflation too.

Even though Social Security payments are inflation-protected, delaying will give you a larger check later that is also inflation-protected.

This is all subject to change though, so make sure you keep up with legislation regarding any future changes to Social Security benefits.

4. Buy Real Estate

Financial plan to buy real estate for the financial security

Owning real estate is another way to keep pace with inflation— maybe even beat it! Retirees should aim to have their own house paid off, but real estate investing can diversify income sources to help battle inflation in retirement.

If you want to avoid buying physical rental properties and dealing with tenants or a management company, Real Estate Investment Trusts (REITs) are another option.

5. Purchase Annuities

Consider purchasing an annuity with an inflation rider. Just keep in mind that annuities are contracts, not investments.

Many annuities have scheduled increases at fixed amounts, rather than being indexed by inflation.

There are also numerous rules you must understand, so make sure to read the fine print. Because many annuities are not CPI-indexed, these may not provide real inflation protection throughout your retirement.   

6. Consider Safe Investments

Couple discussing safe investments with financial advisor

Some “safe investments” are bonds and certificates of deposit (CDs). If you choose these as your weapons against inflation, keep in mind that if inflation rates increase then negative returns and a decline in purchasing power are possible outcomes.

A safer option to consider is an inflation-adjusted Treasury Inflation Protected Security (TIPS).

#7: Invest in Natural Resources

Choosing investments that can outgain the inflation rate is how to beat inflation in retirement. Nobody benefits from inflation more than corporations associated with commodities that rely on natural resources. While we are adapting to paying higher prices, these guys are making record profits.  

So, consider investing in commodities like oil, natural gas, lumber, steel, and mineral companies. In addition to the potential steady gains, most of these companies pay annual dividends to their shareholders.  

8. Lower Your Cost of Living

If you’re wondering how to protect your 401k from inflation, one of the easiest ways is reducing expenses. Now might be a good time to assess your cable TV package, mobile phone plan, and home and auto insurance carriers. These services typically increase year after year regardless of inflation or other events occurring globally.  

Negotiating your plans with your current cable and mobile providers may lead to better rates. If not, ask their competitors for a quote.  

If your current homeowners’ and automobile insurance policies have low deductibles, you can quickly offset inflation rates just by increasing your deductibles. Insurance companies offer lower rates with higher deductibles.  

9. Use Your Skills

If you’ve already left the workforce and are wondering how to beat inflation in retirement, consider the skills that helped you retire. Retired professionals can protect their 401k from inflation by working part-time as a tutor or substitute teacher. If you have experience in a specific niche, such as computer programing, sales, written grammar, or other specialties, you can earn additional income by freelancing.

10. Be Patient

Instead of spending money on things you may want but not need, just wait until prices improve. If you made it this far without a new boat, wait a little longer.  

Besides, the cost of the boat isn’t the only expense. The fuel to operate it is higher than ever, plus you’ll need some in the tank of the vehicle you’d use to tow a boat.  

So, just wait. This is how to protect your 401k from inflation.

The Bottom Line: Keeping Inflation in Focus

Two of the top concerns for retirees are health and money. With decreasing purchasing power of money and rising prices of healthcare, inflation impacts both.

This is a real cause for concern.

The older you get, the more significant the price gap between what you used to pay years ago and what you need to pay today becomes.

Since future inflation rates are unknown, retirement planning should include inflation-protected investments to cover at least the current average rate of inflation.

Plan ahead and you will emerge victorious with a strong retirement income plan.