How Inflation Eats Away at Your Retirement Income

Updated: Aug 19, 2021

Inflation is something most Americans probably don't think about much, but it has a significant influence on their financial lives. Not only does inflation affect the prices of consumer goods, but the federal government also uses it as a benchmark in determining whether to increase contribution limits to qualified retirement plans or to raise monthly Social Security benefits.

On an individual level, the inflation rate affects how much your retirement dollars will really be worth. Over time, it can take a serious bite out of your nest egg. Understanding how inflation may hurt your retirement strategy is a must for ensuring that you have enough assets to last through your later years.

Key Takeaways

  • Inflation has a huge influence on our financial lives.

  • The federal government also uses inflation as a benchmark when deciding to increase contribution limits to qualified retirement plans or raise monthly Social Security benefits.

  • Inflation impacts your ability to live well during your retirement years.

  • The primary concern for retirees is how inflation affects how they can spend their money on important necessities such as medical and healthcare.

  • Energy sector stocks and REITs often grow in value alongside the inflation rate and are smart choices for investors.

​​How Much Money Can Retirees Lose?

In terms of the actual amount of money that inflation can cost retirees, the numbers are startling. LIMRA Secure Retirement Institute constructed a model demonstrating the effect inflation could have on the average Social Securitybenefit over a period of 20 years. According to its research, a 1% inflation rate could swallow up $34,406 of retirees’ benefits. If the inflation rate were to increase to 3%, the shortfall would total more than $117,000.1

Inflation Diminishes Retirees’ Buying Power

The primary concern for retirees is how inflation affects their purchasing power. This is true even if inflation remains low because seniors are more likely than younger consumers to spend money on things that tend to increase in price, such as healthcare.

According to the Centers for Medicare and Medicaid Services (CMS), per capita, health spending for elderly Americans was three times that of a working adult and five times that of children in 2014, averaging $19,098 annually.2

In 2018 (the most recent data as of Dec. 1, 2020), the CMS estimated that healthcare expenditures increased by 4.6% overall.2 Over that same period, inflation averaged 2.4%.3 That means even when inflation is low, retirees will be hit harder than others because the costs that affect them most tend to continue to rise.

Downsizing in retirement to a more affordable apartment or house may help seniors save money over time.

Low inflation becomes even more problematic when the Social Security Administration (SSA) doesn't issue an annual cost-of-living increase for those receiving benefits​.

Healthcare isn't the only item that can drive up retirees’ expenses. Housing, travel, and supporting adult children also influence how much seniors spend.

A survey from the Employee Benefits Research Institute found that 45.9% of retirees spent more in the first two years after they retired than they did in the years immediately prior. Twenty-eight percent of households were spending 120% of their pre-retirement income over that same period, which suggests that some seniors may be experiencing lifestyle inflation. 4

​What Retirees Can Do to Curb Inflation’s Side Effects

While seniors can't directly affect the inflation rate, there are ways to minimize the shadow it casts over their retirement.

Reducing housing costs, for instance, is a step in the right direction. Trading in a larger home for a smaller one, even if the mortgage is paid off, reduces the monthly outflow for property taxes, utilities, homeowners insurance, and maintenance.

Another smart move is adding investments to your portfolio that are likely to increase in value as inflation rises. A real estate investment trust (REIT) or energy sector stocks, for example, are better positioned to see their value grow in tandem with the inflation rate.

Just remember to balance stock investments with more conservative options, such as bonds, which are more predictable and tend to offer stable returns.

​The Bottom Line

Inflation can be a retirement killer, but it doesn't have to be for seniors who take the time to develop a plan for beating it. Reducing spending, creating a realistic retirement budget, and leveraging investments can all help to soften the blow inflation may give to long-term savings.


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