Inflation may not sound like an evil word, but if you value your money and how much you save, it can be evil. Like many people, I was taught to save money for a rainy day. I’ll admit that I didn’t always do as good of a job that I should have, but I do at least recognize the importance of saving money and earning interest. What many aren’t taught at a young age is the lesson of inflation and how it will affect the value of your savings.
Okay, so you may not be all that familiar with inflation. Inflation is basically the erosion of value per unit of currency as a result in a generally increase in price for goods over time. I’ll try to give you an example. The price for gas, energy, groceries and other goods slowly increase in price over time. As these prices increase, it takes more money to purchase these items. As time goes by, you will be able to purchase fewer goods per dollar you spend. The value per dollar slowly erodes. That is inflation.
So, if you have a great job and earn $100,000/year, think about what you can purchase with that $100,000. Next year, you’ll be able to purchase about 3-3.5% less items because of the inflation. The next year you’ll be able to purchase about 3-3.5% even less. Many companies offer a “cost of living” increase each year to combat inflation and keep the value of your compensation close to your purchasing power.
So how is this the enemy of my savings account? The average inflation rate in the US is about 3-3.5% per year. Every year, the value of the dollar goes down by 3-3.5%. If you think about the money you save and the interest rate you’re earning, most likely you aren’t earning anywhere close to 3% in a savings account. If you are earning less than the inflation rate, then you are actually losing value in your savings. Even with the interest you’re earning in your savings, the purchasing power of your savings is dwindling if you’re not earning more interest than the inflation rate.
I hope this gives you some perspective of inflation and interest and how they react against each other. I’m definitely not against having a savings account, but it is important to invest wisely and to be smart about where you put your money.
For more information on interest and how interest is calculated, try some of the online calculators at CalcuNATION.