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Last Updated : Apr 26, 2019 09:12 AM IST | Source:

Viewpoint | Remember - RBI’s Inflation rate is not your personal inflation

The real inflation that you experience is different from what the government tells you.

Moneycontrol Contributor @moneycontrolcom

Dev Ashish

If the RBI announces that India’s inflation is 5%, does it mean that every Indian’s expenses will experience inflation of 5%?

The answer is no.

RBI’s inflation is not your personal inflation.

Let’s take one example - a father whose son is in the 1st year of engineering. The family’s general annual expenses are Rs 5 lakh and the son’s college fee (in 1st year) is Rs 1.5 lakh. So the total expenses are Rs 6.5 lakh.

Now suddenly, the college decides to increase the fee to Rs 2.5 lakh from the 2nd year onwards.

The result?

Family’s overall expenses shoot up to Rs 7.5 lakh. That is, an increase of 15.4% over the earlier Rs 6.5 lakh.

And if RBI now says that the inflation is 5%, then you know that the father in the above case would disagree.

This is just one example where one particular expense’s inflation can derail the family’s budget.

How about a more relatable example?

Here is the expense data of two different families:

Table 1

Prices of different things/services increase or decrease at different rates.

So even if RBI says the inflation is at 5%, the two families will experience their own inflation rates. In above example, at 7.6% and 11.1% (figures in the right-bottom cells of both tables).

Remember - the real inflation that you experience is different from what the government tells you.

And if possible, try this exercise yourself to find out your personal inflation. You might be surprised.

But why so much fuss about inflation?

Even if what RBI tells you about inflation isn’t true for you, why does it matter and why should you be bothered?

Let’s try to address that…

So RBI told you that inflation is 5%. But you did some analysis (like above) and found that it’s closer to 8.5% for you.

This means that if you are saving money for the future, then you need to find investment options that give more than 8.5% and not just 5%.

So if you have an FD giving you 7%, then it won’t work as your inflation is 8.5%.

Understand it like this:

Suppose a Rs 1 lakh FD gives 7% in a year, i.e. you get Rs 7,000 as interest. Now let’s say you are in the 20% tax bracket. So 20% of Rs 7,000, i.e. Rs 1,400 is paid as taxes. You only get Rs 5,600 as post-tax interest.

Now remember that inflation for you is 8.5% (and not 5% as claimed by RBI).

So something that cost you Rs 1 lakh last year, will now cost you 8.5% more. That is, you will need to spend Rs 1,08,500 this year.

Unfortunately, the money you get from the FD you made last year is Rs 1,05,600 - which is much less than what you need. Sorry!

And this is why it matters!

What’s happening is that your actual post-tax returns are less than your personal inflation. You got to beat inflation in the long run if you don’t want to run out of money in later years.

Even in financial planning, it is of utmost importance to anchor inflation expectations to realities of the lifestyle of the person being planned for and not just on the available inflation data.

Suppose you are 40-year old planning to save for retirement. Your current monthly expenses are Rs 50,000. Depending on what your projected expenses will be in the first year of retirement (i.e. at age 60), your retirement corpus would be calculated.

Have a look at how even a small change in inflation % changes the retirement expense figures dramatically:

Table 2

As you can see, each 1% increase in inflation increases the future monthly expense by almost 20-21% at the time of retirement after 20 years.

And depending on how much your future expenses will be, the retirement corpus would be calculated.

More the expenses, more the corpus requirement. More the corpus requirement, more you need to save going forward.

Related Reading - How Controlling This One Thing Can Accelerate your Retirement Savings?

This is the reason why understanding your real personal inflation is so important when saving for long-term goals.

(The author is the founder of
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First Published on Apr 26, 2019 09:12 am
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