Inflation. Since the pandemic, it’s the word on everyone’s mind. Debated by economists and the average person at grocery store registers all over the world. We’ve all heard it, but how many of us know how it works and how it affects your retirement? More importantly, how many of us know how to protect ourselves from it?

Simply put, inflation is a measure of how quickly prices are increasing over time. In other words, it’s a measure of how quickly that twenty dollars in your pocket loses its purchasing power at the store.

Inflation is calculated as the average price of a basket of goods and services over the period of one year. When inflation is high, the price of that basket increases quickly. When it’s low, the price increases more slowly over that same period. Contrarily, deflation is when prices decline and the purchasing power of that twenty dollars increases (i.e., you can buy more with it).Inflation is a double-edged sword. On the one hand, those with tangible assets like property see certain inflation as a good thing. It raises the value of their assets. On the other hand, those without tangible assets have a more negative view on it. It costs them more to purchase those tangible assets. This loss of purchasing power impacts the cost of living for the public, which in turn leads to a slowdown in economic growth.

In line with the well-known song lyrics “More money, more problems,” in the case of the money supply of an economy, this is true. For example, following the Spanish conquest of the New World, large amounts of gold and silver suddenly flooded into European economies. Since the money supply increased rapidly, the value of money fell, which led to rapidly rising prices.

Similarly, during the COVID-19 pandemic, the US government passed the stimulus package and distributed funds to every single American, including those who didn’t need the government’s help. Although it kept most Americans from falling off a financial cliff, it also meant that large sums of money flooded into markets. This sudden demand, in conjunction with supply chain issues, caused prices to rapidly increase and the purchasing power of the average American was suddenly much less. The US is still battling those inflationary pressures.

So how does a country battle inflation? Well, they must implement strict monetary policy to avoid disaster; a central bank controls the money supply and goals include moderating long-term interest rates (i.e., the cost of borrowing money), price stability, and maximum employment. Each one of these goals is intended to promote a stable financial market. This stability allows businesses to know what to expect and, therefore, offer more stable prices and supply. Let the money flow too easily and you spike inflation, too slowly and you have economic stagnation. It’s a delicate balance.

When it comes to planning your retirement, account for at least 2–3% inflation every year in your financial plan. Personally, I think you should overestimate that; inflation may only be 2–3% per year in the US but, when you look at the cost of living in Bermuda, you should plan accordingly.

Once you’ve put things in place for your retirement, how do you protect your retirement savings from the inflation bogeyman? Well, you have some options:

  1. Retire later. Hear me out…by waiting to retire later than you planned you can avoid retiring during a period of high inflation. High inflation can cause upset in the market and may make the value of your pension portfolio fall. Withdrawing from your pension during this time can leave you in a worse financial position than if you wait until the markets are less volatile to take income from your pot.
  2. If you have savings elsewhere that can sustain you, it might be a good time to crack open that piggy bank. Drawing from your cash savings for a short while instead of your pension gives the market time to grow again and creates an opportunity for your investments to recover. However, if you need to draw down from your pension you should consider trying to draw down from fixed income investments first before you touch any equity portion on your portfolio.
  3. Stay invested, but look at where you are invested. It’s normal for pre-retirees to move their investments into less risky assets as they approach retirement, but we are living longer; your pension pot needs to last longer too. For it to have staying power, it needs to be invested in assets that are more likely to increase in value over time. It’s a good time to look at what you’re holding, reassess your risk tolerance, and adjust where you need to.
  4. Add to your pension – falling markets aren’t always bad news. If you still have a bit of time to go until retirement, you should consider adding more to your pension. It’s like buying things on sale. You can purchase more assets at a lower price. Remember, pensions are a long-term game plan. Those assets will increase in value eventually. You just need to have a little courage and give it some time.

Inflation can be unsettling, especially when it comes to thinking about how it might affect your retirement. By planning ahead and putting certain measures in place, you can help protect yourself from the impacts of inflation on your retirement lifestyle. After all, if whole countries can battle it, you can too.

Melanie Gauntlett is Financial Pensions Advisor at Freisenbruch. To learn more, or if you have any questions, please contact her at mgauntlett@fmgroup.bm, or call +1 441 294 4660.