Do you perceive an inflation generation gap?

[LRDave]

My 40-year old business partner's eyes glass over when I talk about inflation and its risks relative to our business and retirement.

He understands the concept, but I just don't think he has any real or visceral feel for what it's like.

And he thinks "stagflation" is a blow-up doll at a bachelor party.

 

[Gone4Good]

Do you mean a gap between those who lived through the 70's and those who did not?

Possibly.

I'd expect someone who lived through the 70's to have a greater appreciation for the threat of inflation than those who did not. I did not, at least not as an adult, and yet I appreciate the threat of inflation far more than my parents do.

That leads me to think that maybe folks whose wages were largely indexed to the 1970's inflation didn't necessarily see it as that much of a problem. Most normal folks didn't own stocks, or bonds, or have 401(k) accounts then. Savings were in short-term pass book savings accounts. Did CDs even exist then? I think they didn't. Their retirements were often "secured" by employer pensions that were tied to wages, which were indexed to inflation. What's the problem?

More than that though, I think understanding inflation is a hard concept. It requires an understanding of compounding. Compounding is non-linear. Non-linear thinking is not something someone intuits easily, it's something that is acquired through study.

Maybe, then, the gap has less to do with when someone was born and more to do with whether someone has thought hard about living off of their money.

 

[Birchwood]

inflation does affect all of us, but the impact differs.
If one buys only food alone, it's there but not much.
If one sends kids to college or get sick, or buy a car every year,
then inflation has a severe impact.

 

[ziggy29]

Do you mean that they can't relate to the higher inflation we had in the late 1970s, or that he can't relate to the idea that many people feel high inflation today? If one's budget has a large percentage of discretionary items and not strictly food, energy, health care and education, it's easy to understand why someone would not "understand" why people who are buying only those things feel like prices are spiking.

 

[LRDave]

Do you mean that they can't relate to the higher inflation we had in the late 1970s, ......

^^^^I mean this, ziggy29 (and G4G).^^^^

Inflation was the "boogie man" in my household growing up more than the social or world politics issues of the day. And it seems it made the nightly news a lot.......

 

[ziggy29]

I was a child of the 1970s, and while I remember the high inflation of the era, I also remember my dad's paycheck increasing enough to cover it. If there's any difference between now and then should inflation spike again, this might be it. I think moving forward, inflation will be a greater threat than it used to be because wages aren't keeping up with (or beating) inflation like they used to. Neither are the returns on "safe" cash investments. Fewer households had significant stock holdings then, which I think is where people really got creamed.

 

[lemming]

CD's existed in the 70's and were paying 10-13% one year.
I didn't know that wasn't normal and was not wanting to tie money up for long so I was only buying 1 year terms Hey I was 26

 

[jclarksnakes]

Those of us in our 50s and 60s were young workers back in the 70s when inflation was such a big issue. We saw people who had seemingly done the right things to prepare for retirement end up with much less value in their portfolios and have to come out of retiement and return to work. To us, at least those of us who were paying attention this was very sobering. We had to change our thinking about how to make it to a successful retirement. It is understandable that younger people do not understand how serious inflation can be. They have never actually seen it like we have.

 

[harley]

Did CDs even exist then? I think they didn't.

Just for historical information, CDs did exist back then. I bought my first one in 1978, and they weren't new at that point. Oh for those sweet, sweet 16% 1 year cds. Of course, my first mortgage (circa 1980) was 15.75%. Yes, living through it makes it much more visceral.

 

[Koogie]

Speaking as a relative young 'un (38) I sure remember inflation. In fact, it was one of the first lessons in economics I really understood. I grew up on a farm and I can vividly remember one night watching the headlights from the ridgeline our house was on while the neighbours moved their farm equipment down the road to avoid repossession.
I can remember my parents struggling with the stupid banks and Farm Credit Corporation.
My dad made sure I understood that you can do everything right and proper in life but other people can still come and take away what you worked hard for and they didn't.

 

[youbet]

It's all a matter of whether your investments, or other RE income sources, can grow and offset inflation. It won't take the double digit inflation numbers of the 70's to cause problems for folks. If your real income drops as little as 2% - 3% per year for a decade+, you're going to feel it.

I think today's so-called "benign" inflation level of about 3%, but accompanied by 1% CD's, is an example of this. Conservative investors are experiencing the "boil the frog" phenomena. The slow, steady erosion of the purchasing power of your life savings is sometimes hard to grasp as opposed to, say, a 30% drop in portfolio value due to the Great Recession.

I also note some folks being unable to associate higher prices in their own lives with the inflation numbers the media tells them about. "Gosh, we're struggling financially here! Property taxes on the house are up. Gasoline and other energy is through the roof. Our hospitalization policy just went up 11%. Sean over at the pub just raised the price for a pint from $3.50 to $4.00. Restaurant coupons seem to have vanished. Etc. Etc. At least inflation is benign and we don't have to worry about that or else we'd really be in trouble!"

What's with that? I'm suspicious that these folks only think of "inflation" as the traditional wage - price spiral and don't connect it to their own personal rate of inflation reflected in higher costs in their own lives.

 

[John Galt III]

I've encountered a lot of what I would term "price snobbery" : people who act as if it is beneath them to worry about "oh, just a little 20 percent increase in the price of my daily snack at the Bistro. I can afford that".

 

[FinanceDude]

Just for historical information, CDs did exist back then. I bought my first one in 1978, and they weren't new at that point. Oh for those sweet, sweet 16% 1 year cds. Of course, my first mortgage (circa 1980) was 15.75%. Yes, living through it makes it much more visceral.

My uncle got a 15 year CD at 11.75%, the bank got robbed on that deal........

 

[ziggy29]

My uncle got a 15 year CD at 11.75%, the bank got robbed on that deal........

When you are bold enough to buy something priced for Armageddon and Armageddon doesn't come, you tend to do well, whether it's buying long-term debt in 1982 or stocks in March 2009.

I was still a teenager when these rates were in play so I didn't have a chance to lock any in -- the best I could do is lock in a few thousand bucks at 3.4% above inflation for 30 years in 2000...

 

[Independent]

One more historical note - Although the initial benefit for most private pensions was tied to wages, COLA's were rare (maybe some unions negotiated them as part of new contracts). The phrase "living on a fixed income" was very meaningful to people who retired in those days.

I can see that a 40 year old business owner isn't very worried about inflation. Looking backward, probably his own income has gone up faster than inflation. Looking forward, he sees his business gross revenue going up with inflation. What's the concern?

The year-by-year fluctuations in his business are probably much more meaningful than and inflation he's experienced.

 

[clifp]

One more historical note - Although the initial benefit for most private pensions was tied to wages, COLA's were rare (maybe some unions negotiated them as part of new contracts). The phrase "living on a fixed income" was very meaningful to people who retired in those days.
d.

While many of us were working and often borrowing for houses (13.75% for my negative amortization mortgage) back then. I think most of us were in early to middle stages of our careers and wages were increase at least as fast as inflation. By and large we benefited from borrowing money and then being able to refinanced at lower rates..

A retire back in 1979 would be at least 95 and probably not posting on a Early retiree board. Inflation was devastating to retirees back then, I remember my paternal grandfather who was a man of modest mean and living on a couple of fixed pensions plus social security, complaining bitterly about inflation. My dad took early retirement in 1980 and a few years later he got "cost of living increase" in his pension of 5% which in no way compensated for 3 years of double digit inflation.

 

[W2R]

Memories I have of inflation at that time....

In the late 1970's, my ex and were newly married and in the "dirt poor" phase of life. We had just discovered the magic of credit cards and borrowed to the hilt, reasoning that we would be paying it back with future dollars that would be worth less. We also had a car loan and a household loan. Suze Orman would have had a stroke.

I remember that it seemed like prices went up tremendously every time I went to the grocery store. In 1979 we were looking for a house, even though we couldn't afford to eat at McDonalds, because the price of houses was skyrocketing. One builder in Carlsbad (CA) had an open house, and had a lender there who was ready to offer us a 23.5% mortgage. We seriously considered it. Hard to believe, now. Interest rates were so much higher then. We were young, and didn't understand that the high interest rates weren't permanent..

 

[W2R]

Younger generations may not have experienced much inflation, but they are sharp and I am sure they will manage if/when inflation returns. Inflation is very difficult but then the unemployment crisis is no picnic so in that sense, they are experienced.

 

[Gone4Good]

One builder in Carlsbad (CA) had an open house, and had a lender there who was ready to offer us a 23.5% mortgage. We seriously considered it. Hard to believe, now. Interest rates were so much higher then.

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.

 

[W2R]

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.

The median home price where we lived had gone up sharply that year too; don't remember exact figures but it seemed much sharper than I have ever seen since in the times and places where I have lived. That's California real estate for you. We were scrambling to buy before we were priced out of the market. It was kind of a speculative buy, I guess. Lenders did not seem at all particular about what we could actually afford. We ended up getting a state sponsored veterans loan at a lower rate, on a house half the price of that one, though. Good thing he was a veteran.

Here's an article that says that nationwide, real estate prices in the 1970's were skyrocketing but I think the increases were much higher where we were, at least in 1979.

http://www.bloomberg.com/apps/news?pid=newsarchive&sid=a5Mu8v6dknLo

In the 1950s, home values surged an average of 15 percent a year, according to the Census. In the 1960s, the pace dropped to 4.3 percent before jumping to 18 percent a year in the 1970s, boosted by a U.S. inflation rate that reached 13 percent. In the 1980s, the average annual increase was 6.8 percent. The pace dropped to 5.1 percent during the 1990s.

 

[traineeinvestor]

I grew up in the 70s and 80s in a country which had persistently "high" inflation for most of that time (and price controls for some years) and more or less assumed that inflation was normal. I also learned that borrowing to invest in inflationary times could be a good way to make money (a lesson in the risks would come along in the late 1980s).

Today, inflation is very noticable - food, good wine, taxi fares, holidays, education, entertainment, insurance, utilities and accomodation* all cost noticably more than they did a few years ago. While some things are cheaper or not much changed - financial services, borrowing costs, appliances, clothing, bus/train/ferry, consumer electronics, cheap wine - our budget is weighted towards the items which are experiencing higher inflation so the effect is quite noticable (even allowing for changes in consumption patterns).

Items about inflation (especially food, transportation, health care and housing) get regular media coverage.

The local CPI hit 6.1% for the year to the end of January.

Inflation is something for the ER crowd to be concerned about - playing around with my numbers in FIRECalc shows that my success rate starts declining at a very rapid rate once the assumed rate of inflation starts getting past 5% pa. This is one of the reasons why I am light on bonds and have invested mostly in equities and real estate - over the longer term, I worry more about inflation than volatility.

* unlike the US, our local housing market is higher now than it was in 2007 - both in terms of capital values and rent levels

 

[Gone4Good]

Here's an article that says that nationwide, real estate prices in the 1970's were skyrocketing.

The graph from this other ER thread also shows that. A quick look at historic mortgage rates shows that they didn't really accelerate until the end of the 70's into the early 80's, So housing prices had a good 8 year run or so before the Fed started trying to take the punch bowl away. But even then it doesn't look like housing prices actually declined, they just stopped going up. I wonder how people afforded the mortgages.

 

[W2R]

The graph from this other ER thread also shows that. A quick look at historic mortgage rates shows that they didn't really accelerate until the end of the 70's into the early 80's, So housing prices had a good 8 year run or so before the Fed started trying to take the punch bowl away. But even then it doesn't look like housing prices actually declined, they just stopped going up. I wonder how people afforded the mortgages.

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.

 

[clifp]

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.

You are right. My parents bought a house in nice neighborhood in Southern California in 1970 for $35,000 by 1980 when my dad retired (in no small part due to the house appreciation) it was worth just over $200,000.
However, Volker had raised interest rates and credit was very tight, so even though inflation was high, the high interest rates actually caused the skyrocketing CA Real Estate to stop going up.

The result was even though they got the price they were looking for they ended up with some "creative financing" which involved them taking several 2nd mortgages on other properties and much lower interest rates. One of these (fortunately the smallest ended up defaulting).

 

[Nords]

CD's existed in the 70's and were paying 10-13% one year.

Heck, in 1982 I had a checking account paying 10%.

So housing prices had a good 8 year run or so before the Fed started trying to take the punch bowl away. But even then it doesn't look like housing prices actually declined, they just stopped going up. I wonder how people afforded the mortgages.

When my FIL worked at CBS's Washington DC bureau, in 1975 they had an influx of Vietnam refugees who had worked for the CBS Saigon bureau and knew that they should leave the country.

My FIL was talking with a co-worker about buying a rental property when one of the Vietnamese immigrants asked "Whose permission do you need for that?" They proceeded to educate him on an aspect of American culture that apparently wasn't being covered in his citizenship classes. He was shocked that all it took was money and some sweat equity. He thought they were teasing him when they claimed that a bank would loan him most of the money. It certainly seemed way too good to be true.

Three years later he had eight rentals. This was in addition to his CBS day job and his spouse's Vietnamese restaurant. He never seemed to have any trouble getting a mortgage!

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.