Do you perceive an inflation generation gap?

[clifp]

H

He must be in his 70s by now. I can remember seeing video of him working at CBS in 2005. He probably still has those rentals, too.

Naw, I bet he sold the rentals around 2006 and moved back to Vietnam where he owns a factory or two.

 

[justplainbll]

Lotsa people who are in hock up to their eyeballs have had little concern about inflation. Inflation takes a heavy toll on savers, but serious savers are pretty much a minority in the US. Being old enough to remember the 5¢ Coney Island hot dogs and beers, $2,000 new cars, $15,000 new homes, and late 1940s 'Help Stamp Out Inflation' posters in NYC subway cars; I'm acutely aware of more recent generations' lack of adequate concern about the corrosive affects of inflation.

 

[arebelspy]

Speaking as a younger person, while I understand the effects of inflation, my mind still boggles at a statement like this:

3 years of double digit inflation.

Simply because I understand compounding, I think, that idea (3 years of double digit inflation) just floors me.

There's just a huge gap between understanding something and living it.

 

[ziggy29]

Simply because I understand compounding, I think, that idea (3 years of double digit inflation) just floors me.

There's just a huge gap between understanding something and living it.

Yep. Though as I said before, my personal recollection of it was that even cash yields almost kept up with inflation (though taxes were a killer) and that my dad's paycheck kept up with it (and maybe a little even better than that).

Higher inflation with cash yields and wages that mostly keep up with it might not be worse than what we have today -- a biflationary environment with low overall inflation, moderately high inflation on most household essential purchases and cash yields and wage increases stubbornly remaining at approximately zero.

I didn't head a household circa 1980, so maybe I'd have a different perspective if I did -- but I'm not sure household purchasing power was eroded more during the inflation spike of the late 1970s and early 1980s than it is being today. Unless one was relying on a non-COLA'd income stream, of course, in which case it would have been brutal.

 

[haha]

It would be interesting to see how the combination of increasing interest rates and increasing inflation impacted home prices. The assumption is that inflation will cause a real asset like a house to appreciate in value. But the value of highly leveraged assets also depend on the cost of financing. At the end of the day, a house can only sell at a price someone can afford to pay . . . and the monthly payment on a 20% 30-yr mortgage is 50% more than a 10% mortgage.

This is an important factor that will constrain any meaningful recovery in SFH prices. Homes are affordable now, but at close to all time low mortgage rates. What happens when rates go up, and you have to find someone who can handle the much higher monthly payments? I beleive our ecoomy wold operate better long term if cnsumer credit were very much lessened from current levels. Can't happen though. It's like withdrawal from heroin. Might be good long term, but who is going to vote for it?

Ha

 

[Alan]

My main recollection of the inflation in the 70's was trying to get onto the property ladder. House prices were rising so fast that it was hard to save up a deposit. These were also the days when the bank wouldn't loan you more than 2.5 x your annual salary, and in the UK fixed rate mortgages have never been an option, so once we did get that first mortgage the interest rate went up every year for a long time.

Just as well for us that we had 2 incomes for those first few years of our mortgage.

 

[NW-Bound]

I bought my first home in 1980. The mortgage rate was 14%. Think about it, it was amazing that I qualified for the mortgage, with not that much money down. I sold that first home 6 years later, for 50% higher.

The cumulative inflation from Jan 1972 to Jan 1982 was 129%.

A $10K invested in Wellesley became $20K in the same time frame, not quite keeping up with inflation.

I wonder how other investments would fare.

 

[aleabo]

Always look on the bright side of life Why do we need to worry about interest rate and house prices? I assume that majority of the people here already paid off house or close and have fixed mortgage...

 

[NW-Bound]

High inflation is a problem for retirees, particularly early retirees, because it is difficult to invest to get meaningful returns to stay alive. Gold price surged in the early 80s as people scrambled to protect their stash. Rich people were "investing" in collectibles like rare paintings and arts, etc...

To quote Otar,

Inflation is one of the most efficient ways of transferring wealth from those who derive their income from capital (most retirees) to those who derive their income from work. I have no doubt that the next generation, overburdened with the debt that our generation created, will be successful in bringing back inflation when the time is right for them.​

I already showed that Wellesley, at 40% stocks and 60% bonds, could not quite keep up with inflation in the decade of the 70s. Wellington with a higher equity AA did even worse.

Even more brutal is that even if the return from investment can keep up with inflation, it really does not after one pays taxes on interests and dividends. If one manages to keep up with inflation, a 3.33%WR will let one live for 30 years before depleting his savings. With taxes, that time will be less.

Oh well, I do not expect to live to 85 anyway, and if I do, I may not care much at that point.

 

[Ed_The_Gypsy]

The older one gets, the easier it is to grasp inflation, because you experience it.

Housing prices are one example (see above), but consumables are a better one. When I was first driving, almost 50 years ago, we could buy gas for $0.25/gallon. Today it is roughly $4/gallon. Maybe the cost of cigarettes is a better gauge, but I do not have those numbers anymore. As kid, I recollect my mother spending $10 a week for groceries for a family of four.

A working life is maybe 45 years (65-20), on the same order. I am planning as if I will live another 30 years. The lesson is that in retirement we are likely to experience roughly the same scale of inflation as we did in our working lives. That is scary.

 

[audreyh1]

I already showed that Wellesley, at 40% stocks and 60% bonds, could not quite keep up with inflation in the decade of the 70s. Wellington with a higher equity AA did even worse.

Even more brutal is that even if the return from investment can keep up with inflation, it really does not after one pays taxes on interests and dividends. If one manages to keep up with inflation, a 3.33%WR will let one live for 30 years before depleting his savings. With taxes, that time will be less.

Surprising that Wellington with the higher equity allocation didn't do better than Wellesley over that time period. I guess it's in the later time period that the higher equity allocation helps one recover from the ravages of inflation.

FYI You are supposed to pay your taxes out of that 3.33% withdrawal, so that doesn't change things.

Audrey

 

[NW-Bound]

What I was thinking about taxes is this.

Suppose one has $1M in after tax money, and manages to match inflation of 10%/year, by making $100K in dividends and interests. So, next year, he has $1.1M, and can withdraw 3.33% of that or $36.6K.

Now, out of the $36.6K, he has to pay taxes on the $100K "gains" too. That hurts, and leaves him with less to live on. In order to maintain the same lifestyle that he thought the 3.33%WR would bring him, he would have to withdraw more.

If there were no inflation, our retiree could just keep his $1M in cash, and would be guaranteed to have the same lifestyle for 30 years at 3.33% WR.

PS. Just like Otar said, high inflation is a way for young workers to get back at their seniors. Might I add taxes too?

 

[audreyh1]

What I was thinking about taxes is this.

Suppose one has $1M in after tax money, and manages to match inflation of 10%/year, by making $100K in dividends and interests. So, next year, he has $1.1M, and can withdraw 3.33% of that or $36.6K.

Now, out of the $36.6K, he has to pay taxes on the $100K "gains" too. That hurts, and leaves him with less to live on. In order to maintain the same lifestyle that he thought the 3.33%WR would bring him, he would have to withdraw more.

No - he can't withdraw more. He has to live on less. You limit your withdrawal to that fixed % and live on what's left after paying taxes. Yes, if you are receiving way higher dividends than what you need to live on, you are in a really bad tax situation. The key is to limit the income thrown off by your portfolio to what you need to withdraw (or less). But that's if your portfolio is mostly taxable accounts. If it's in tax-deferred accounts you don't have that kind of problem.

One of the takeaways from this can be that if you are in a high inflation situation, you want most of your investments to be in tax deferred accounts - at least the income generating ones.

Audrey

 

[NW-Bound]

"He has to live on less"! Yes, I guess he will have to.

It was just that it is not really "constant spending power" as it is labeled as such in FIRECalc. In the example above, it is easy for our retiree to forget that he may have to pay taxes on the phony $100K "gain", not just the amount that he spends. He may start his ER in low inflation years, and may forget that it might not stay that way.

Anyway, all I was trying to say was that investing would difficult in high-inflationary periods, and if one throws higher taxes into it, it will be misery galore!

About "wanting to be in tax deferred accounts", there are limits as to what one can put into 401k, IRAs, and such. I suspect that many young and aggressive LBYM'ers may have more in after-tax savings than in tax-deferred ones.

 

[audreyh1]

About "wanting to be in tax deferred accounts", there are limits as to what one can put into 401k, IRAs, and such. I suspect that many young and aggressive LBYM'ers may have more in after-tax savings than in tax-deferred ones.

Well, the majority of my assets are in taxable accounts, but from this board I get the impression that most retirees and near-retirees have the bulk of their retirement portfolio in tax-deferred accounts.

 

[lucija]

...<snip>...

Simply because I understand compounding, I think, that idea (3 years of double digit inflation) just floors me.

There's just a huge gap between understanding something and living it.

Yes, inflation is a nasty beast. As a kid, I lived through hyperinflation (not in US), something to the tune of 1000%+ per year.

From what I recall:
+ Wages, more of less, kept pace with inflation.
+ None of the merchandize had price tags.
+ Coins were not used.
+ New bills (with added zeros) were issued every few years.

If anyone had anything left over at the end of the month, there was no point in holding on to it "as is". Any savings had to be kept in foreign currency. Hanging on to real assets, such as real estate or gold, was safe as well. At the time/place, investing in markets was not an option, but I suspect stocks would have a chance of keeping up...

 

[ziggy29]

Yes, inflation is a nasty beast. As a kid, I lived through hyperinflation (not in US), something to the tune of 1000%+ per year.

From what I recall:
+ Wages, more of less, kept pace with inflation.
+ None of the merchandize had price tags.
+ Coins were not used.
+ New bills (with added zeros) were issued every few years.

 

[NW-Bound]

With high inflation, the early retiree can get hit by taxes on phony gains. Yet, managing cap gains vs. dividends could be tough, as Congress has changed laws on a whim.

The common way is to stuff one's tax-deferred accounts while working, and then to do Roth conversion after retiring. Still, people have wondered if Congress might just change the law. That has plenty of precedents.

Dividends used to be taxed as ordinary income until 2003. Cap gain tax was as high as 49.88% in 1977. Where can one hide? Our retiree most likely owns his home, hence has no deductions, and little ways to reduce his taxes. It looks bleak to me, when a "millionaire" drawing a 3.5%WR may have to live on perhaps $20K or $25K after paying taxes on the total portfolio "gain", and still sees his portfolio dwindling down after 10 years.

Now, suppose he has saved $2M so he could live on twice the amount. Ah, his "income" is now $200K/yr if he could match the inflation rate of 10%. He is now considered "rich", and will face other special tax treatments!

Another thing that "high income" or assets can get you is the means testing on SS. To borrow a picture that Dawg52 has posted in another thread:

"No SS for you! Come back when you are 70."

​

PS. People who do not "get" this picture are referred to another thread here.

 

[justplainbll]

With high inflation, the early retiree can get hit by taxes on phony gains. Yet, managing cap gains vs. dividends could be tough, as Congress has changed laws on a whim.

The common way is to stuff one's tax-deferred accounts while working, and then to do Roth conversion after retiring. Still, people have wondered if Congress might just change the law. That has plenty of precedents.

Dividends used to be taxed as ordinary income until 2003. Cap gain tax was as high as 49.88% in 1977. Where can one hide? Our retiree most likely owns his home, hence has no deductions, and little ways to reduce his taxes. It looks bleak to me, when a "millionaire" drawing a 3.5%WR may have to live on perhaps $20K or $25K after paying taxes on the total portfolio "gain", and still sees his portfolio dwindling down after 10 years.

Now, suppose he has saved $2M so he could live on twice the amount. Ah, his "income" is now $200K/yr if he could match the inflation rate of 10%. He is now considered "rich", and will face other special tax treatments!

Another thing that "high income" or assets can get you is the means testing on SS. To borrow a picture that Dawg52 has posted in another thread:

"No SS for you!".

​

PS. People who do not "get" this picture are referred to another thread here.

I agree with your assessment but would like to suggest that those with taxable accounts holding individual equities as opposed to many mutual funds have more wiggle room with respect to paying taxes on capital gains.

 

[NW-Bound]

Yes, I am looking at my Quicken screen right now. Only 29% of portfolio is in MFs, the rest is in individual stocks or ETFs. Of the above 29%, a majority of it is in tax-deferred accounts.

Some MF portfolios are churned more than others, and may have greater than 100% turnover in a year. Wellesley and Wellington have turnover rates of around 45%, I think. I don't know how MF holder's tax liabilities were during the decade of 1970-1980. I was too young to have any money to know.

About the one hundred trillion note from Zimbabwe posted by Ziggy, what is the significance of the stack of rocks, I wonder.

Is it supposed to mean that its citizens are caught between a rock and a [-]hard place[/-] another rock?

 

[jclarksnakes]

Annual inflation exceeded 10% in 10 of the last 100 years The last year that inflation exceeded 10% was 1981. Our 31 year run of relatively low inflation is unusually long. No question why there would be a generation gap in the perception of inflation.

 

[NW-Bound]

There has been very little in the news about hyperinflation in Zimbabwe, although we all know it has been bad. But how bad is it? I had to look up to find out.

In August 2006, they first did a "reverse split" to exchange an old $1,000 note for a new $1. Then, in 2008, they did the second time, but this time exchanged $10B (ten billion!) old bill for the new $1. Then, in 2009, they did it the 3rd time, and exchanged $1T (one trillion!) bill for the new $1.

Observe how the time intervals got shorter, and the ratio got larger! How absurd is that? Yes, it is happening.

In all, the exchange ratio was 10^3 * 10^10 * 10^12 = 10^25. That's "ten trillion trillion" or "ten septillion".

By comparison, the Weimar mark depreciated a mere one trillion in 3 years!

 

[Khufu]

I think the concerns that people express about inflation are excessively backward-looking in the manner of generals fighting the last war. For one thing, we can just forget about Weimar or Zimbabwe style hyperinflation. It is never going to happen in the US. It is hard to envision even high inflation for the next few years since where would the wage-price spiral come from?

The problem with the inflationistas is two-fold:
1. They adhere to the monetarist, always and everywhere, model of inflation. The great appeal of this model is its simplicity that indeed anyone can grasp. The defect is that it is wrong. Japan proved that in 2001/2002 when they increased their money supply by one third only to have it sit in vaults while deflation returned again and again. The high inflation that the monetarists were certain was imminent in the US after 2008 has not materialized.

2. a lack of imagination. It's true that inflation has been present during almost all of our lives and a serious problem during the 70's for those of us old enough to remember. But there are periods of persistent low-inflation/deflation in US history and around the world also. I don't think the general certainty about future inflation is justified.

I see again and again that the anecdotes are always about food and gas. Food is 8% of the average American houshold's budget. So, a little increase there doesn't actually impact the bottom line very much. No one ever mentions rent. Rent is much more important in a household budget, but people make more food-buying decisions in month than housing decisions, so they overweight food. In the years before I left the US my rent was going down.

Rises in gas prices alone do not necessarily constitute inflation, but could be a different problem of competition for resources.

Since 2005 when Robert Shiller identified the US housing bubble my default expectation has been that the US = Japan. So, far that has worked well enough. I think persistent low or negative inflation is very possible for a long time.

 

[NW-Bound]

Hyperinflation, Zimbabwe and Weimar style, is worth mentioning as a history lesson that the most ridiculous, absurd, and unbelievable things did happen.

I do not see anyone here suggesting that hyperinflation would happen in the US. Our imagination does not run that wild. As the US is still the #1 economy in the world, that would bring a collapse of the world economy perhaps on a par with a massive asteroid striking earth.

Double-digit inflation has happened in the US. The most recent episode was in 1979 (11.3%), 1980 (13.5%), and 1981 (10.3%). My first mortgage was in 1980, and I paid 14%. Pundits back then said we would never have single-digit mortgage rates again. Obviously, they were wrong.

Where are we going from here? When will inflation get to double digit? Perhaps never, as Bernanke keeps promising that his hand is always on the "knob" and ready to crank it to the right. The economy seems to pick up, as many of us felt and expressed so in another thread. It is simply prudent to plan for inflation or at least interest rates to go up, particularly when we see data like the following. For comparison, the average inflation in the US has been 3.16%.

The US demographics and culture are not like Japan's, I am also suggesting.

Yr	Jan	Feb	Mar	Apr	May	Jun	Jul	Aug	Sep	Oct	Nov	Dec
2008	4.3	4.0	4.0	3.9	4.2	5.0	5.6	5.4	4.9	3.7	1.1	0.1
2009	0.0	0.2	-0.4	-0.7	-1.3	-1.4	-2.1	-1.5	-1.3	-0.2	1.8	2.7
2010	2.6	2.1	2.3	2.2	2.0	1.1	1.2	1.1	1.1	1.2	1.1	1.5
2011	1.6	2.1	2.7	3.2	3.6	3.6	3.6	3.8	3.9	3.5	3.4	3.0
2012	2.9	2.9

 

[rescueme]

I can tell you how we did. We ended up with mortgage payments that came close to exceeding any takehome pay that he had ever made. While the house was in escrow, he got a great new job at more than twice the pay so we could afford it. Pretty high risk behavior.

Funny - we had the same situation back in early '79 when we purchased our last home.

The way it worked out with our budget, we had $20/month left over after all necessities were paid for. However, I was extremely lucky to get another j*b that paid well and had a lot of overtime which also put me in the 2x's pay increase.

I remember making two note (old/new home) payments, along with interest on a bridge loan I took out to cover the down payment on the new place, until the old place was sold, just on the income from my new j*b without losing any sleep. Of course, that quickly changed when the downturn in the economy in the early 80's (along with massive layoff's where I work*d). It's always something...

However, sometimes risks do work out ...