Do you know what is Inflation and how it destroys your money ?
Inflation is defined as a sustained increase in the general level of prices for goods and services. It is measured as an annual percentage increase. As inflation rises, every rupee you own buys a smaller percentage of a good or service.
That’s the technical definition. Let’s take a practical example:
In the year 2000, a single stick of ‘Classic Milds’ cigarette cost Rs 2.50. I remember it very well because we were poor college students in Delhi at that point of time and would buy 4 ciggies for a day at Rs 10.
After the budget next year, price went up to Rs 3. We were still college students and were understandably outraged that our expenses had gone by Rs 2 per day. We switched to ‘Four Square’ cigarettes for a few days as it was still at Rs 2.50.
Today, a single stick of ‘Classic Milds’ costs Rs 12 – In 15 years, the price has gone up by 4.5 times.
Why has it gone up ? On account of Inflation.
Because of inflation, we can only buy 1 unit of a product today, that we could buy 4 units of, 15 years ago. And it’s not just restricted to cigarettes. If you look at costs of food, housing, clothing etc, most things have become expensive.
There are also things which have become cheaper (e.g. electronics and phones) but we are now paying much more in absolute terms for them.
How does it destroy money ?
Let’s say you had Rs 1 lakh in the year 2000. Let’s also assume that you put it in a Fixed Deposit for the last 15 years and it gave you an annual return of 8%.
Today, you will have ~ Rs 3.5 lakhs. You will think your money has grown 3.5 times and might even feel happy about it.
However, let’s look at it a bit differently using our cigarette analogy.
|Year||Amount||Cost of Cigarette||No of Cigarettes you can buy|
So while you technically have 3.5 times your initial capital, it has much less buying power and worth today.
This is because while your money grew at 8%, inflation over the last 15 years was an average of 6.9% (See data here )
However, since FD earnings are taxable, your real rate of return would range from 5.6% to 7%, depending on if you are in the 10% or 30% tax bracket. That’s why the value of your money has stayed almost the same or possible even depreciated further.
So how could you have preserved and grown your wealth ?
By diversifying your investments across a mix of asset classes including Equity, Debt, Gold and Real Estate.
If you had invested Rs 1 lakh in equity mutual funds over the 15 years, it would have been worth roughly about Rs 10 lakhs !!
So yes, please don’t stick to just one asset class or leave your money in a bank savings account or FD. Or god forbid in an insurance policy.
Talk to Us to know how we can help you beat Inflation and grow your money better.