Inflation Risk

Written By : Elaine Silvestrini
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Inflation means your savings and fixed income lose purchasing power as time passes and the cost of goods and services go up. Inflation can affect your standard of living and is especially problematic for retirees.

During your retirement years, your money will not stretch as far as it did when you first left the workforce. Your ability to compensate for higher bills will be limited because you can’t seek a raise, a new job or additional work to bring in more money.

According to the Social Security Administration, a 65-year-old man today can expect to live, on average, until the age of 84. A 65-year-old woman can expect to live to age 86½.

So if you retire at 65, you need to be able to make your money last roughly 21 additional years. And the value of the money you have when you retire will have decreased by the end of those two decades.

How Does Inflation Work?

Let’s look at how inflation affects money over a 20-year period.

Using the Bureau of Labor Statistics’ inflation calculator, you can determine how far your money could go from year to year, based on historical inflation rates. Although the calculator can’t predict the future, it’s useful to see how the value of money has changed in the past when estimating how much income you are likely to need in the future.

Plugging numbers into the calculator shows you that you would need $770.43 to have the same buying power in May 2019 as you had with $500 in May 1999.

It should be noted that inflation has remained relatively low for more than 20 years. If something should happen and inflation rose at a greater rate, the value of a dollar would drop further.

There are several factors that contribute to inflation. Mainly, it’s a function of supply and demand.

When supplies of goods or services can’t keep up with the level of demand, the cost of those items increases.

In addition, changes in the country’s money supply can affect inflation. This occurs when more money is in circulation or the value of the dollar as compared with foreign currencies changes.

Effects of Inflation Risk on Retirement

In the last several years, inflation has stayed relatively low. But researchers say retirees experience inflation at higher rates than other consumers, mainly because so much of their expenses involve health care.

Even a low rate of inflation can significantly erode purchasing power in the long run. At a 3 percent inflation rate, 20 years from now it will cost you $181 to buy the same items you can buy with $100 today.

Chart showing the effects of inflation on the value of $100

Health care spending for seniors is estimated to be three times higher than for working adults and five times higher than for children.

In addition, retirees spend higher portions of their income on housing, which rises in cost at a slightly faster pace than other goods and services.

Tracking Inflation Rates

Financial advisors generally suggest assuming an annual 3 percent inflation rate when planning for retirement. That’s actually a higher rate than the government has calculated in the last several years.

The Bureau of Labor Statistics tracks monthly average prices of consumer goods to establish the current Consumer Price Index, which the bureau defines as “a measure of the average change over time in the prices paid by urban consumers for a market basket of consumer goods and services.”

This change in the CPI from one period to another is what determines the rate of inflation.

Retirees face cost-of-living increases that exceed the national averages because their spending is more centered on goods and services with more rapidly increasing costs — primarily health care and housing.

Because of this, the government created an unpublished, experimental inflation measure for older Americans, known as the CPI-E. The CPI-E reflects estimated spending patterns of Americans aged 62 and older from December 1982 to the present.

Consumer prices, as measured by the U.S. Department of Labor’s Consumer Price Index, rose 1.8 percent from May 2018 to May 2019.

Historical average annual rate of inflation:
CPI-W vs. CPI-E:

Source: U.S. Department of Labor
2018 2.5 percent 2.4 percent
2017 2.1 percent 2.3 percent
2016 1.2 percent 1.6 percent
2015 -0.2 percent 0.6 percent
2014 1.3 percent 1.8 percent

The rate of inflation has not exceeded 4 percent since 1991. The last time the government measured double-digit inflation on an annual basis was during a recession in 1981 when the rate was 10.3 percent.

How Is Inflation Calculated?

The government calculates four discrete CPIs, which give weight to various goods and services based on purchases made by different groups.

CPI-U: For All Urban Consumers

According to the BLS, the CPI-U covers spending by about 87 percent of the population. This expansion of the CPI-W is a measurement of spending by “almost all residents of urban or metropolitan areas, including professionals, the self-employed, the poor, the unemployed, and retired people, as well as urban wage earners and clerical workers.”

CPI-W: The CPI for Urban Wage Earners and Clerical Workers

The CPI-W, established in 1913, tracks the spending of hourly wage earners and clerical workers. This is a measurement of spending in households in which more than half of income is from clerical or wage occupations and at least one earner has been employed for at least 37 weeks during the previous year. It accounts for about 32 percent of the population.

CPI-E: The CPI for the Elderly

The federal government considers the CPE-E data tentative because survey limitations such as the low number of respondents and the index’s failure to account for senior discounts affect its accuracy.

Chained CPI-U: The Chained CPI for All Urban Consumers

The Chained CPI-U is a controversial measure that some politicians advocate using to rein in spending on government programs. The index generally calculates lower inflation rates by considering changes consumers might make in response to rising prices.

For example, if a certain mode of transportation costs more, people might switch to a less expensive mode.

Chained CPI is controversial because using it to calculate COLAs would result in lower benefits.

Cost-of-Living Adjustments (COLAs) and Government Benefits

Federal benefits programs may increase payments annually in what are known as cost-of-living adjustments (COLAs). These are intended to help benefits keep up with inflation and have the same purchasing power over time. The adjustments are based on CPIs.

Benefit programs include Social Security, military pensions and federal-employee pensions. Social Security COLAs are based on the CPI-W, but most other federal COLAs use the CPI-U.

The 2019 COLA for Social Security was 2.8 percent.

Including Inflation Risk in My Retirement Plan

The good news is that most retirees don’t have their savings stuffed in mattresses or in a jar. The money likely is invested in a way that allows it to grow so that it may be keeping up with inflation already, thereby mitigating one of the most significant risks in retirement.

Still, if inflation is a concern, it can’t hurt to evaluate your investments to make sure inflation won’t eat away at their value.

One way to keep inflation from affecting your ability to maintain your lifestyle in retirement is to invest in assets that keep pace with inflation or even surpass it in growth.

But there is usually a cost associated with any investment that has the potential for higher returns. It might be in the fact that the investments, such as stocks, carry higher risks of losing value. Or it could be the cost of the investment is higher than the same investment without inflation protection.


Inflation indexed immediate annuities are tied to the CPI. The amount of monthly income usually starts as much as 20 or 30 percent lower than the payout of other annuities, but it will increase over time as inflation rises. This feature is also referred to as a cost-of-living adjustment rider.

You should weigh whether the reduced initial payout is worth the potential gain, especially when the inflation rate continues to be low. Talk to your financial advisor about the potential benefits of these and other types of annuities.

For example, in addition to potentially protecting against inflation, annuities also insure against longevity, or the risk of outliving your savings.

Interested in Buying an Annuity?

An annuity can provide you with a reliable income stream in retirement.

Inflation-Protected Treasury Securities

Treasury Inflation-Protected Securities (TIPS) are issued by the federal government. Payouts rise with inflation as measured by the Consumer Price Index. These bonds pay interest at a fixed rate two times each year. The principal may be increased if the CPI warrants it, with the interest rate applied to the higher principal.

You can purchase these bonds either directly from the government at no cost or through a broker or online account with a fee.

In addition to purchasing individual bonds, you could also invest in an inflation-protected bond fund in which the manager of the fund purchases different bonds.

Variable Interest Funds

Investing in various funds is one way to spread your risk. By putting your money in a fund, you can diversify your investments, so your assets are not dependent on the fortunes of a single company or industry. And some funds yield interest rates that vary and can provide a hedge against inflation.

Options for Variable Interest Funds:
Floating Rate Funds
This fund comprises investments in stocks, bonds and debts that pay variable interest rates. These are generally attractive to investors when interest rates are rising.
Dividend-Paying Stock Index Funds
You can use the dividends you receive either as income or to reinvest in the fund and increase its value, thus hedging against inflation.

Real Estate

Experts say real estate investing can be a hedge against inflation because the price of real estate typically increases faster than the general rate of inflation, especially over time.

In addition to the increasing value of the real estate, the ability to generate rental income from the property also increases at a rate that compensates for inflation.

At the same time, any debt you assume to purchase the real estate decreases. If you are paying $700 a month in a fixed-rate mortgage, those payments won’t increase, even as the worth of the payments decreases with inflation.

12 Cited Research Articles

  2. LIMRA. (2018, February 8). LIMRA Secure Retirement Institute: Women Rate Financial Risks Higher than Men. Retrieved from
  3. Moehrle, T.G. (2014, April). Concerns about health insurance and retirement. Retrieved from
  4. Reed, S. (2019, July 9). CPI Information Request. Email response to
  5. Reed, S., and Stewart, K.J. (2014, February). Why does BLS provide both the CPI-W and CPI-U? Retrieved from
  6. Robison, D.L. (2019, May 1). How To Fight Inflation Through Real Estate Investing. Retrieved from
  7. Social Security Administration. (n.d.). Cost-of-Living Adjustment. Retrieved from
  8. Social Security Administration. (n.d.). Cost-of-Living Adjustment (COLA) Information for 2019. Retrieved from
  9. Stewart, K.J. and Pavalone, J. Attachment F: Experimental CPI for Americans 62 Years of Age and Older. Retrieved from
  10. Sullivan, S. (2013, April 10). The ins and outs of ‘chained CPI’ explained. Retrieved from
  11. U.S. Department of Labor. (2012, March 2). Consumer Price Index for the elderly. Retrieved from
  12. U.S. Department of Labor. (2019, January). Historical Consumer Price Index for All Urban Consumers (CPI-U): U.S. city average, all items, by month. Retrieved from
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