How to calculate your ‘personal inflation rate’

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If you read the headlines, you have probably seen plenty of coverage that inflation is a big issue for the UK economy right now. But will it actually end up being a big problem for you?

The truth is, it all depends on what you spend your money on.

The official measure of inflation, based on economists’ rough guesses about what most people buy each month, could be very different from the unofficial inflation that you yourself are experiencing. This means if you want to know how much to worry about rising prices, and perhaps whether to budget for them, you need to calculate your own personal rate of inflation beyond what you see talked about in news.

It is tempting to think of inflation as a shrinking bank note, as if today’s inflation rate meant each pound coin in your wallet would be worth 95 pence the next time you walk into a store. But the so-called ‘headline rate’ is really just a one size-fits-all average that can disguise the fact that prices for some goods are ballooning dramatically, while prices for others may be static or even falling.

Whether inflation ends up taking a bigger or smaller amount from your budget depends on what your expenses are. A good example right now is energy prices, which are among the biggest catalysts for inflation. If you are not driving, you are not directly impacted by higher fuel costs for a car. Of course, a non-driver may still be affected indirectly by higher fuel costs because it could cost more to take public transportation, get an Uber or transport items to stores. But the pain of paying more money to fill up your tank at the petrol station will not be felt equally by drivers and non-drivers alike.

To calculate your personal inflation rate, experts recommend analysing how your annual spending can be divided between eight broad categories — food, housing, apparel, transportation, medical care, recreation and leisure, education and communication, and other goods. (It may help if you already use a budgeting app or if your credit card categorizes expenses for you.) With that information, you can then input your spending for each category into a worksheet and update the current inflation rates for each category. This personalised inflation rate will help you to understand how inflation impacts both your spending and your savings.

While inflation will eat into any money that you have in a savings account, your investments may not take much of a hit. That is because stocks historically have outperformed the rate of inflation.

If you would like helping calculating your personal inflation rate, please reach out to your financial planner.

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Sources: Techlink

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