The True Costs of Average Inflation

New numbers from the U.S. Bureau of Labor Statistics (BLS) released a few weeks ago point to continued high inflation in nearly every category, with the overall average settling at 8.5%. That means that, on average, the cost of everything in the U.S. is up almost 10% from a year ago.

How have your expenses changed in the last year? This data paints a broad picture, but few actually experience the “average.” The flaw of averages is the idea that “averages” are typically incorrect. As an example, think about the statistician that drowned while crossing a river that was, on average, three feet deep.

While 8.5% inflation may sound like a big number, it is not surprising to anyone who’s been to a grocery store lately. Or anyone who has purchased a car, home, medical care, or subscribes to Netflix. Inflation exists all around us and has only recently come to the forefront of the discussion for one simple reason: It’s not a few things getting expensive anymore; it’s everything. Or at least it feels that way.

The challenge is understanding that there’s a lot of variability hiding in “everything.” A consumer in Louisiana is going to pay a different price for ground beef than one in New York. A senior is likely to require more specialized and expensive medical care than someone in their 20s. Even gas prices fluctuate depending on your location, vehicle choice, and amount of driving.

Consider housing costs. For anyone in Colorado, it’s not surprising to see the value of your home is likely much higher than it was a few years ago. Yet this rising home value has little effect on the cost of housing for those who own their homes. Sure, property taxes have increased, as have the costs of maintaining a home, but the actual mortgage probably hasn’t budged. With mortgage rates so low and the availability of refinancing, the past few years have probably been deflationary for most homeowners, allowing them to reduce their mortgage interest and monthly payments.

Compare that experience to someone renting. With rents increasing by as much as 25% year over year and a high-priced housing market, you have a perfect storm of folks who can’t afford to buy and can no longer afford to rent. With the Federal Reserve promising continued rate hikes, it’s likely that any cooling in the housing market will be balanced out by an increase in mortgage interest rate costs. Inflation has reared its ugly head.

My point is this: there is no such thing as an “average” inflation rate. Instead, each of us will have our own personal inflation rate based on the variables within our own lives. Your personal inflation rate may be above or below 8.5%. Instead, the message worth receiving is that everything in life continues to get more expensive over time.

Inflation remained low for the last 10-15 years, and investors got comfortable. When prices only rise by 1% per year, its effect remains insignificant for most. The inflation we’ve seen lately is a stark reminder of the importance of growing income and why fixed-income investments like bonds can be a bad bet for investors. The definition of fixed income offsets the blessing of their reduced volatility: it’s fixed. Your investment income doesn’t move up or down. So as everything gets more expensive, the purchasing power of your money in bonds or other fixed-income investments shrinks.

How has your personal economy changed over the last year? Have your expenses gone up at a rate higher than “the average?” Has your income gone up? These are the questions on which to focus. Inflation will impact all of us differently. However, planning for “average” inflation simply does not account for the variability in the goods and services you purchase. Your financial plan needs to account for the lifestyle you have and the expenses you’re likely to encounter. These will make up your specific inflation rate and ideally create a benchmark with which you can compare your income.

The goal is an income that grows at a rate higher than inflation. Hopefully, your personal inflation rate is less than the 8.5% average, but if not, consider ways to either increase your income or decrease your expenses. I suspect that over a long enough time horizon, inflation will likely return to the long-term average of about 3.5%. Until then, make sure your financial plan accounts for your personal inflation rate and has methods in place for attempting to grow your investment income long-term. We believe that’s the best way to maintain your lifestyle in the face of high inflation.