Personal Inflation Rate Shows How Changing Prices Affect You

Hardly a week goes by without something being written about inflation. Which is kind of funny, considering there is so little around.

Last year, inflation was a mild 2.7 percent. Indeed, inflation has been under 3.0 percent for the past three years.

Nevertheless, inflation has been on the minds of such people as Federal Reserve Chairman Alan Greenspan, who just this month raised interest rates for the seventh time in a year to ensure inflation doesn’t flare up.

Greenspan worries about inflation because the economy is expanding rapidly: 4 percent last year. That’s about twice the rate Greenspan would like.

He sees consumer spending at record levels, he sees real income expanding at a healthy clip; he sees a relatively low unemployment rate, he sees factory use at record levels; and he worries that if the economy continues to expand at its current clip, this low inflation rate could double or worse.

It’s Greenspan’s job to worry about the national inflation rate.

But individual investors ought to worry about their own inflation rate.

The fact that the country ended the year with a 2.7 percent inflation rate might be completely irrelevant to how much more expensive your lifestyle became last year.

If you bought a new car and a new house last year, your personal inflation rate might be considerably higher than the nation’s.

Then again, if you refinanced your 30-year mortgage, paid off your car loan and wiped out all your credit card balances, your personal inflation rate might have been even lower than the nation’s.

To find out, use the work sheet that accompanies this column.

To figure the nation’s inflation rate, the Bureau of Labor Statistics considers seven categories, from food to clothing to housing to medical care.

The Bureau then assigns each category a percentage it determines is the average amount of income consumers spends. For example, the government figures that we spend about 17.4 percent of our annual incomes on food and drink, including eating out at restaurants.

Next, the bureau multiplies that percentage by the amount that category increased or decreased for the year.

The price of food, for example, increased about 2.7 percent last year.

Determine what percent of your annual household income you spend on each category the Bureau of Labor Statistics considers.

Multiply that number by the inflation factor in the next column on the work sheet, and write the answer in the final column.

Note that last year, clothing costs declined, so the number you end up with there will be subtracted from the rest of your answers.

After you’ve multiplied each category by its inflation factor, add up the final column.

This will be your personal Consumer Price Index or inflation rate.

Consider this number when you review your investments.

Everyone wants to earn stellar rates of return. But that’s not reasonable. Rather, aim for your investments to appreciate at a higher rate than your costs.

If your personal inflation rate is, for example, 2.0 percent, and your investments earned a modest 5.5 percent, you’re still beating inflation by 3.5 percent.