Inflation The Silent Thief
I’m very pleased to share 2 items of news with you today.
The first is that I have opened a savings account. Not a big deal for most people – but for me its the first account that I’ve ever opened that doesn’t come with a card or cheque book.
The second bit of new is that I’ve made a little extra money this month which I can allocate to my emergency fund. So I now have an emergency fund worth £1000 (or $1600).
So what, small stuff – some of you might say. But for me it’s another important little step in changing the direction in which my life is going.
Even though I’ve had much larger amounts than this in my accounts nearly every month over the years, this is the first time that I’ve ever had a separate savings account. An account with the sole purpose of providing a financial reserve rather than being available for everyday spending.
I feel so self righteous!
One thing that did upset me though when I was talking to my bank representative (ah yes – I made an appointment with my local bank to ensure that the account was set up properly, and that they received my cash correctly – this is special money and needed to be treated with respect) was the terrible rate of interest they offered.
On balances up to £25,000 or $40,000 they offered a rate of 0.5% – which left me feeling as though I might as well have not bothered with the bank and stuffed it under my bed instead.
Not only is 0.5% a rotten rate of return with a financial institution which aims to make a return on capital of 10%+pa for its shareholders – its 2.2% less than the current rate of inflation (here in the UK inflation is currently 2.7%).
Inflation isn’t called the “silent thief” without good reason.
The rate my bank have offered me for my savings sucks
Essentially I am losing 2.2% of the value of my savings each year the bank holds my money. Because if inflation is 2.7%pa and I only get an interest rate of 0.5% a year then the purchasing power of my money is moving in reverse.
In 5 years time – my money will be worth nearly 10% less than when I first deposited it. In 10 years time it will be worth nearly 19% less.
Take a look at this graph illustrating the effects of inflation on the spending power on our money. Check out this graph showing what will happen to the purchasing power of my money over 10 years.
I had a quick look at deposit rates in the USA and found a similar problem (one which I’m sure is replicated in many economies). Inflation in the USA is currently 1.5%, Deposit rates seem to me about 0.5% leaving your money losing value by 1%pa.
Here’s another graph illustrating the effects of inflation on the US $ in recent times.
Beating inflation should be the minimum benchmark in anyone savings plan. However – I think many people are either unaware of inflation or chose to ignore it.
As you can see – its effects on the purchasing power of your money can be devastating.
So with my savings are currently losing their value by 2.2% a year – where does this leave me and why on earth have I put my savings in an account where I am knowingly losing money every day?
The simple answer is that I’m paying for security.
- Security in the knowledge that the actual numerical amount of money I’m saving won’t fall (even though its purchasing power will)
- Security in the knowledge that I can access my emergency fund at any time without having to give notice or sell assets.
- Security in the knowledge that the value of my emergency fund won’t fluctuate with market trends or values.
Small comforts – but it’s the only comfort that many savers can get.
In my own case – I don’t intend to build up large financial reserves in deposit based accounts – I just don’t see the point. I will attempt to save 2 months expenses in cash over the coming months and then start to look at low risk but higher return investments.
How much do you hold in deposit based accounts – are deposit rates equally poor in your area ?