Random musings on inflation and retirement

[MichaelB]

Some post by members retired a decade or more highlight portfolios that are higher in nominal terms now than when they retired, withdrawal rates are holding steady or even falling, and no decline in lifestyle. This is our situation as well. While I would like to give myself a hearty “well done, lad” I wonder if something else is happening.

My sense is our lifestyle is as enjoyable now as when I retired, but our spending – the basket of goods and services we enjoy – is totally different. Our wants and needs are constantly evolving, and we are continuously adapting to changing prices in the marketplace by shifting and redirecting our consumption so easily that we hardly recognize the effort. A real life example of the substitution effect.

This leads me to wonder if we overestimate inflation in retirement, or if perhaps the CPI itself overstated as it affects us, and if we underestimate our own ability to deal with increasing prices. This is not an argument to increase the withdrawal rate, but it does raise the question of just how much portfolio risk do we need to take.

Another possibility, though, is that the BLS position that CPI is overstated is correct and over the past decade we really have seen much less inflation than has been reported, so we might be deceiving ourselves regarding our ability to maintain our lifestyle over time (and inflation) . If this is the case, a decade of real higher inflation, say in the 3-4% annual range, might do some real damage to our spending power. “All we need is a little more inflation” is mentioned so frequently now in the financial media I wonder if the inflation cure might be worse for us (retired types) than the current "war on savers" low rates / low inflation environment.

 

[audreyh1]

Our nominal spending stayed more or less flat from 2000 thru 2014.

I'm trying to buck that trend in 2015, and this last Europe trip may have helped. and, no, I didn't buy one or more bottles of Dom Perignon.

But we have always had a lot of discretionary spending in our budget, and during the first three years we spent very heavily on travel. I suspect that has a lot to do with inflation "not showing up" in our total spending.

Our current annual withdrawal exceeds our current spending, so we have room to spend more if inflation requires us to.

 

[Options]

Our nominal spending stayed more or less flat from 2000 thru 2014.

...

+1
Although I had yet to retire during this period, the same has been surprisingly true for me. OTOH, I was very focused on accelerating PF accumulation during that time. Now retired, my spending budget is slated to increase substantially, although it's not really happening. Too ingrained in frugality I suppose. I do see the purse strings loosening in the near future.

 

[ERD50]

Interesting points Michael.

We also have seen near zero inflation in ten years. Though we have had kids leaving the nest which accounts for some of that (college costs were accounted for separately from 'our' budget, other 'family' costs like food, clothing, etc, when they were home were not broken out).

Yes, when retired you have more time to scour the budget for cheaper/better-value alternatives, maybe more DIY stuff.

OTOH, I finally got around to making a pass at an estimate of taxes after RMDs. Wow. Most of my NW is in 401K/tIRA, I'll be converting to ROTH like a madman the next 5-10 years, but still gonna be a 'Wow'.

-ERD50

 

[walkinwood]

Nice post.

These subtle observations and thoughts don't make it into the retirement planning models yet.

 

[Samz]

I'm self employed and have had to self pay for our Health Insurance since the mid 1990's. We always had a high deductible HSA type plan.

Premiums could jump well over 10% each year and since we had a few pre-existing conditions, getting on another plan was never an option. We were stuck with what ever they wanted to charge until ACA came out two years ago. I figured we saved $7K the first year and we have too much income to get any subsidy.

When inflation has been relatively flat, our "personal" inflation rate was pretty stiff with the HI $. Hope ACA sticks around and hoping Medicare will be as good as it is today when we hit 65.

 

[Ed_The_Gypsy]

Our spending is scaling down since we repatriated, but I have noticed that inflation in the cost of things in our small town has been on a tear, much more than the gummint numbers. We notice it more because we have been away for four years and came back to visit only occasionally. Inflation is a personal and a location thing. I don't care what inflation is in NYC, for example, or how my neighbor's for upkeep on his boat is increasing, or what new cars or cigarettes cost these days.

 

[scrabbler1]

Once I smooth out many of the lumps in my annual spending, I end up with a pretty flat pattern of spending from year to year going back to the 1980s. Those lumps include taxes (many tax law changes; some taxes rise with income which was also lumpy in the 2000s), 401k/a contributions, paying down/off mortgage, and issuing and being repaid personal loans to others (kinda like the mortgage).


The one somewhat lumpy item which has consistency risen in the last few years has been health insurance. But in my retirement spreadsheet I allow for a separate inflation rate for this from the rest of my spending because it is a fairly large part of my budget.

 

[audreyh1]

One thing that happened to us was travel expenses dropped as we got a lot smarter about travel and became much more independent travelers.

But we also got a lot of the "pent up travel demand" out of our system and settled down to a less hectic schedule.

I'm glad we set aside money for a lot of travel the first few years. That was the right thing to do for us - we made great use of it.

Still traveling..........

I know that inflation is hitting us in terms of insurance, medical expenses, housing, and several other things, but somehow the bottom line hasn't moved......

 

[Options]

One thing that happened to us was travel expenses dropped as we got a lot smarter about travel and became much more independent travelers.

But we also got a lot of the "pent up travel demand" out of our system and settled down to a less hectic schedule.

I'm glad we set aside money for a lot of travel the first few years. That was the right thing to do for us - we made great use of it.

Still traveling..........

I know that inflation is hitting us in terms of insurance, medical expenses, housing, and several other things, but somehow the bottom line hasn't moved......

Can you share a few of the ways you got a lot smarter about travelling? Your post is exactly true of my situation, including pent up travel demand being met beginning next year (too many projects this year) and medical expenses inflation.

 

[audreyh1]

We went on quite a few group birding trips in various parts of the country and overseas. A great way for beginning birders to get started and we saw a huge number of birds and learned a huge amount from our very experienced guides. We also went on some small group photography trips, and then figured out how to do it on our own. We learned a lot on those trips about photography, processing, being around wildlife, etc., and some of the things we learned was how to do it our way.

There are guides published for birders and for photographers that detail when and where to bird, and when and where to photograph, for just about every conceivable location worth visiting. Once you have some experience in the field you can easily do it on your own, which usually cuts the price in half, if not more.

 

[NW-Bound]

...This leads me to wonder if we overestimate inflation in retirement, or if perhaps the CPI itself overstated as it affects us, and if we underestimate our own ability to deal with increasing prices. This is not an argument to increase the withdrawal rate, but it does raise the question of just how much portfolio risk do we need to take...

My earned income stopped coming in only 3 years ago, so it is too early for me to tell. My last 12-month expenses are 36% higher than that of the previous 12 months, but quite a bit of the increase was due to discretionary spending and hopefully one-time expenses.

What I found really surprising is how our grocery bills have gone down to 60% of the first year of retirement. Maybe we eat less? My wife does not clip coupons, but we always look for sales. I guess we just get better at it.

 

[Sunset]

Not having been retired long, I can only observe the effect over the past roughly 2 years:
More time to research shopping and fixing things, so the DIY effect saves some expenditure and is a sense of pride.
The grocery/other shopping is easier in the afternoons without the crowds and it allows time to shop smartly.
Time to check out insurance costs for autos and saved $600/yr with more coverage by switching to Geico.

 

[Lsbcal]

We are somewhat over our 10 year ago portfolio (inflation adjusted). It's probably a natural outcome of 1 bull market, 1 bear market, and 1 bull market. So maybe just temporary. VPW was an eye opener and we are spending more this year. Having our son out of college and self supporting is a nice thing. Being on Medicare + insurance has helped a lot with medical costs. And getting those SS checks changes one's spending views too.

Yes, RMD's will push up the taxes in percentage terms as mentioned by ERD50. But when I looked at the absolute dollar figure, it was not so bad. And we did a lot of Roth conversion before SS, so that was a tax hit that we've now paid for

So getting older has it's compensations ... maybe? Don't have any choice anyway.

I think even if inflation ticks up, the investment returns will probably be similar in inflation adjusted terms. Just my optimistic thought. VPW shows this sort of scenario for past inflationary times so this is a good personal "what if" tool.

 

[Sunset]

While one might avoid the early effects of inflation or a quick spike, I hate how some gov't officials think this CPI chaining is a reason we will be overpaid on SS.

Often they give the example, say beef goes up a lot in price, folks will switch to chicken. So folks don't need full CPI inflation protections.

Naturally they don't continue the thought "suppose chicken goes up in price, folks can always switch to tofu". Ever BBQ tofu ?
Suppose tofu goes up in price, well folks can always eat their edible dandelions from the lawn in a nice salad

And don't forget if milk goes up in price, switch to water and a tums pill for calcium, just drink it outside.

 

[MichaelB]

So, is flat nominal spending over a decade the result of superior spending management or could it be our inflation rate is really much lower?

Substitution is not beef to chicken, it is consuming something different but maintaining the same approximate level of satisfaction and lifestyle.

 

[Lsbcal]

So, is flat nominal spending over a decade the result of superior spending management or could it be our inflation rate is really much lower?

.....

If I recall right you mentioned some ER people with inflation adjusted portfolios that did not go down over a decade. That doesn't necessarily correlate to flat nominal spending. In our case, spending has been all over the map depending on several factors some of which I mentioned above.

Spending is only a piece of the picture and a somewhat poor defensive strategy if investments are going down. See the VPW discussions for more on this. That said, I know I will economize should we have a rough patch.

 

[MichaelB]

If I recall right you mentioned some ER people with inflation adjusted portfolios that did not go down over a decade. That doesn't necessarily correlate to flat nominal spending. In our case, spending has been all over the map depending on several factors some of which I mentioned above.

Right. Not necessarily flat nominal, but spending that has increased less than the inflation rate over a long period. This group is above average in thrift, so this may be the result of smart spending, but I wonder if we've had is "easy" over the past decade and not had to face real inflation, despite the CPI numbers.

 

[NYEXPAT]

Living overseas the past 12 years has tought us many great lessons. For the first 9 years the Dollar declined from 3.55 to 2.55 all the while inflation was probably running 4-5% and we frequently saw prices on some fresh fruits go up 50% in short periods of time. My wife became really adept at shopping and our spending has been flat all those years. In addition, as Peruvian food has more variety than any cuisine on the planet, it is easy enough to swap one dish for another and not notice the change. The last three years have been amazing, with the Dollar rising to 3.16 and inflation below 3%. Even with <3% inflation our monthly expense go down every month. 3 months ago we got a new addition to the family and our spending is still flat as our entertainment budget is not being used as we do not want to go out to a restaurant minus one of the family.

 

[marko]

So, is flat nominal spending over a decade the result of superior spending management or could it be our inflation rate is really much lower?

Substitution is not beef to chicken, it is consuming something different but maintaining the same approximate level of satisfaction and lifestyle.

I think that the "inflation data" doesn't include the substitution angle. The beef/chicken example is just one of many areas where people are a lot more flexible in their 'wants' and naturally gravitate toward good quality at the right price.

There's lots of areas where people can substitute one thing for another and still keep the quality of life going.

 

[dallas27]

Substitution is not beef to chicken, it is consuming something different but maintaining the same approximate level of satisfaction and lifestyle.

Well, no, that is not what the substitution effect is. It's maximizing goods desired given a set of opposing prices relative to each other and a consumer's preference curve. If everything triples in price tomorrow, you are gonna be less happy but will substitute to maximize it.



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[W2R]

Inflation hasn't seemed that bad to me thus far in retirement, although some things are higher.

With the market surging as it has, and considering that life is short, I decided to spend more this year anyway and buy my dream house. Maybe this is a reverse substitution effect? I'll be upgrading my lifestyle.

 

[audreyh1]

So, is flat nominal spending over a decade the result of superior spending management or could it be our inflation rate is really much lower?

Substitution is not beef to chicken, it is consuming something different but maintaining the same approximate level of satisfaction and lifestyle.

I don't know. Definitely our discretionary spending dropped. This just happened all by itself. I don't see that as the same as low inflation.

 

[Lsbcal]

I'm going to go out on a limb on this one. I suspect that most of the reason retirees get in trouble with inflation is because they haven't factored it's cumulative effect into their (real) net worth. It's so easy to think "Wow, look at my portfolio value. It's never been so high." Not so much with people on this forum but in the general population I think this is very common.

I had to go back and work out our picture for the last 20 or so years before realizing that our real peak portfolio (net worth) value was probably back in 2000 when I was still working. Then there was a recession while I was working. For the last 10 years, our portfolio has gained some altitude. I'm prepared to see it go down in real terms (I think) because life is finite and we have to do the fun stuff now.

 

[NW-Bound]

Well, no, that is not what the substitution effect is. It's maximizing goods desired given a set of opposing prices relative to each other and a consumer's preference curve. If everything triples in price tomorrow, you are gonna be less happy but will substitute to maximize it...

Yes, if the price goes up, people will substitute lesser goods, though they are not happy about it. But humans are adaptable, and thankfully have short memories too. So after a while they will forget and get used to the lower standards. Else, life would be too miserable.

I don't know. Definitely our discretionary spending dropped. This just happened all by itself. I don't see that as the same as low inflation.

Ah hah! And some people do not believe in Bernicke effect, which was empirical data to start out with.